Changing Expectations - April 2023

Reflecting on the past two quarters, we are struck by the significant reversal that has occurred in financial markets.  Stocks and bonds finished the year near their lows as investors feared a Federal Reserve intent on stomping out inflation would ultimately cause significant damage to the economy.

January was marked by a substantial rebound across all markets as inflation data continued to moderate.  This led many market participants to believe that most of the interest rate increases were in the rearview mirror.  That optimism proved to be short-lived as February’s economic data came in hotter than expected.  This resulted in sharply higher rates, with the two-year treasury yield climbing from 4.10% to more than 5% in just over a month. 

The final spike higher in yields was significant enough to call into question the balance sheets of several regional banks.  The ensuing turmoil - and bank failures - resulted in interest rate expectations falling dramatically, with the two-year yield moving back under 4% in just three days.  This drove equity markets higher, particularly the areas that were the most beaten up in 2022.  It is worth noting that even with the returns of the first quarter, the Nasdaq would still need to rally an additional 25% to merely get back to where it was at the end of 2021.