Forecast stocks in 2022? Watch The Fed

Investors know that the bond market is important to stock prices. Recent research shows how important this is. If the United States increases rates significantly in 2022, especially at a faster rate than other countries, the impact on the stock market is unlikely to be positive.

Stocks and bonds

Adam Zaremba of Montpellier Business School and his colleagues have studied the relationship between yield curves and stock returns in several countries. Specifically, they examine the development of the yield on 10-year government bonds. Their article is titled Yield Curve Shifts and Cross Section of Global Equity Returns. It examines sixty countries from 1921 to 2020.

They find that countries with the highest increase in bond yields tend to have weaker stock market performance. Specifically, countries in the highest rate-increasing quintile tend to see their stock markets underperform countries in the lowest quintile by 0.76% per month. This suggests that, other things being equal, investing in countries with relatively fast rising interest rates is best avoided by equity investors.

Fed hikes

The Fed has signaled that it could hike rates three times in 2022 and the bond market seems largely to agree with this view. Most valuations have US rates going up to some extent.

This does not bode well for the stock market, although research shows that the metric to watch is the development of the 10-year government bond yield rather than the specific number of rate hikes and, most importantly, how this change compares to other countries. .

The example of Turkey

Turkey provides an extreme example of this relationship in 2021. During 2021, the yield on 10-year Turkish government bonds fell from around 13% to 25% and Turkey is among the worst performing stock markets for the year. 2021. This also offers some hope for the United States, although yields may rise, the change is unlikely to be as extreme as in other countries.

However, there is no shortage of research to show that rising rates are often negative for the stock market. If the Fed sticks to its 2022 rate hike plan, it could weigh on stock returns.

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