The COVID-19 pandemic is likely history as far as the US economy and financial markets are concerned. So says renowned economist and Bottom Line Personal contributor Allen Sinai, PhD. Whether last year’s powerful recovery maintains its momentum or runs out of steam now depends not just on COVID-19 mutations but on new threats including a spike in inflation…a snarled global supply chain creating widespread shortages…and the Federal Reserve’s multitrillion-dollar tightrope act as it tightens monetary policy and raises interest rates. These uncertainties feel daunting and will ­create plenty of volatility in the stock market, but Dr. Sinai advises investors to hang on. He believes robust growth in the post-pandemic economy can continue through 2024 and that this year’s bull market will deliver solid, double-digit returns. Here’s what Dr. Sinai sees ahead and how it could affect your investments and financial health…

The Inflation Menace

We’re living in strange times. On one hand, all the data suggest that we’re nearly two years into the biggest economic boom since the 1980s. Companies are reporting record profits, and unemployment rates are fast approaching prepandemic levels. On the other hand, we’re experiencing soaring food and gasoline prices, half-empty store shelves and car-dealership lots, and “Help Wanted” signs everywhere.

What is going on? The pandemic—and the US response to it—unleashed surprising and dramatic economic forces, an odd mix of very good but also worrisome consequences.

The virtual lockdown for much of 2020, coupled with more than $7 trillion in federal fiscal stimulus pumped into the economy, left American households flush with savings. So when the COVID-19 vaccines became a reality in early 2021, US consumer demand exploded. Easy monetary policy from the Federal Reserve pushed yields on US Treasuries and other bonds to near-zero levels. The stock market’s rising asset values inflated household wealth, providing plenty of additional spending power. Sub-3% rates on 30-year mortgages ignited a housing boom.

Problem: Manufacturers and retailers couldn’t build up inventories fast enough. Shipping routes and ports were overwhelmed. US consumers saw shortages of goods ranging from automobiles and plywood to electronics and pet products.

This massive imbalance between demand and supply also resulted in shocking price hikes. Last October, inflation jumped 6.2%, its fastest pace in more than 30 years. Accelerating inflation has put enormous pressure on the Federal Reserve to fulfill its mandate to maintain price stability, drain money from the economy and throttle back surging prices. The Fed has responded by reducing its monthly asset purchase of $120 billion worth of long-term US Treasuries and mortgage-backed securities. Next, it may hike short-term interest rates—but there’s a real danger if rates are raised too vigorously, it could stifle the US economic expansion.

How These Threats will Play Out in 2022

The positives outweigh the potential negatives for the stock market. Despite higher prices, consumer and business spending will continue to be robust, helped by the $1.2 trillion Congressional infrastructure bill recently signed into law and, perhaps, the proposed $1.7 trillion education, health-care and ­climate package that Congress was working on as this issue went to press. Global economic growth, which came in at about 3% for 2021, should jump to 5% in 2022, boosting profits for large US c­orporations that earn the majority of their revenues overseas.

Meanwhile, the chokehold on the global supply chain is likely to ease as the year progresses. That should assuage fears of hyperinflation, although I think inflation will continue to be heightened, compared with prepandemic levels, due to rising worker wages and high oil prices.

In 2022, perhaps midyear, I expect the Federal Reserve will start nudging up short-term interest rates. However, as long as inflation runs less than 4% year-over-year, the Fed should be able to tighten monetary policy in moderate, well-telegraphed moves that won’t spook the financial markets. A similar pattern of stellar economic growth, high inflation and slowly rising interest rates may play out in 2023 and part of 2024. Beyond that, my forecast is murkier. This bull equity market, which began in April 2020, is likely to be shorter and more intense than the record-setting one that stretched from 2009 to 2020 and that was characterized by slow growth and very low inflation.

Key US Economic Indicators

Here’s my forecast for the US…

Gross Domestic Product: GDP will likely gain 4.3% this year, then 3.5% in 2023, after growing an average of just 2% annually during the last economic expansion. These gains will be mostly driven by very strong consumer demand, which I expect to rise 4% after a 5% jump in 2021.

Inflation: The Labor Department’s Consumer Price Index (CPI), which measures a basket of common goods and services as well as energy and food costs, should settle at 3.5% by year-end 2022 and somewhat higher, in a range of 3.5% to 4%, by the end of 2023. The federal funds rate, a proxy for short-term interest rates controlled by the Federal Reserve, could reach 0.75% by year-end 2022 and 1.25% at the end of 2023, versus near zero in 2021.

Unemployment: Job growth will continue strong, with the unemployment rate falling to 3.7% versus the 4.6% of October 2021. That will allow workers to demand higher pay from companies scrambling to fill jobs. The average hourly wage for private sector workers is likely to rise by 5.5% to 6% in 2022, roughly double the long-term annual average. Note: This is an unusual labor market because many workers who retired early or quit during the pandemic are not returning, reducing the overall labor pool. That means even as unemployment continues to shrink, the labor shortages evident around the country may persist.

Outlook for Stocks

Including dividends, the Dow Jones Industrial Average likely will return 10% in 2022…and the Standard & Poor’s 500 stock index, 12%. From a historical perspective, stock valuations are slightly stretched, especially after the stock market’s hefty performance last year. But investors can expect higher share prices because of stellar corporate profits. I’m forecasting that the earnings of S&P 500 companies will rise 10% to 15%, on average. Another unexpected positive from the pandemic: Corporate profit margins are much higher now because so many companies, both large and small, adopted cloud and digital technology to improve efficiency and reduce costs.

Best stock sectors for 2022…

Health care. Breakthrough advances, an aging population, wellness and ­fitness are major themes.

Consumer discretionary. Investors should favor companies tied to consumer technology, travel and leisure, home improvement and specialty retail.

Disruptive technology—especially cloud-based and software firms that help businesses utilize digital services.

Financials. These companies will benefit from higher profit margins as interest rates rise, as well as increased loan portfolios as the economy expands.

Stock sectors to avoid…

Energy. These stocks had a tremendous run last year as oil prices spiked, but a slowdown in the acceleration of oil prices is coming in 2022, which will leave many energy stocks overvalued.

Utilities. Their performance was the worst of any sector in the S&P 500 in 2021. In a growing economy with rising interest rates, there’s little reason to own them.

Outlook for Bonds

I expect the yield on 10-year Treasury bonds, recently 1.52%, to rise as high as 2.5% by the end of 2022, significantly driving down the value of Treasuries and bonds generally.

Fixed-income investors, especially retirees, face a dilemma. Bonds have likely entered a multiyear bear market. The overall bond market had total returns of about –1.5% as of late November 2021. I expect even steeper losses this year as both short- and long-term interest rates rise. But retirees should benefit from higher yields on cash and equivalent deposits.

If you must have risk-free investments: Seek out deposit accounts, which are likely to offer higher annual percentage yields this year, in the 1%-to-1.5% range. Just realize that with inflation expected to run 3% or more a year, your spending power will be eroded.

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