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Don't Look Now, but 2022 Is Shaping Up for an Ugly Finish

A slowing economy, a weakening job market and the likelihood of political gridlock will take their toll on stocks.
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The market rebound we had the previous week turned out to be only a temporary reprieve as stocks headed down last week for the fourth week out of the last five. The main trigger was a worse-than-expected August Consumer Price Index report that makes all but a done deal another rate hike by the Federal Reserve of at least 75 basis points this week. The Nasdaq led the decline as it was down about 5% for the week and is now down nearly 30% on the year.

This year has been a bad year for equities and I wish I could say the markets will rebound into the close of 2022. However, that is not my current view as the markets and the economy seems to be at a significant inflection point. Here are three things I am somewhat certain will happen before the close of 2022

The United States officially will enter a recession. Given the economy has posted two straight quarters of GDP declines, one could argue the country is already in a recession.  The third quarter is already looking iffy with the Atlanta Fed's GDPNow growth model currently predicting just 0.5% growth this quarter after starting September projecting 2.6% growth. Don't be surprised if that number goes negative by the end of the month. The housing market already is teetering with the average 30-year mortgage rate back to 6% again. More interest rate hikes by the central bank should reduce housing activity even further.

Job growth will stall in the second half of the year. The strong jobs market has been about the only positive economic factor for months now. However, the strength is overstated. 

There has been a huge divergence between the Household Survey and the official Bureau of Labor Statistics jobs reports since March. The main driver of the difference is a record number of Americans taking second part-time or full-time jobs in order make ends meet as the average consumer has lost more than 5% of their buying power over the past 18 months. In addition, the labor participation rate is still significantly lower than where it stood before the pandemic. This means the real unemployment rate is solidly above the touted unemployment rate. I look for layoffs to increase through the end of year and by the close of 2022 job growth will have slowed to a trickle as the labor market is always a lagging indicator to the economy.

Finally, I am predicting a clean sweep for the opposition party in the coming mid-term elections where Republicans take back the House and the Senate. I see compete gridlock in 2023 as the Biden administration comes under increasing pressure and will be able to get little done. 

This gridlock should help on the inflation front as the massive government spending programs we have seen over the past two years come to a close. However, 2023 will be another year of deep acrimony at a time when the country likely will be in a recession. How long or deep the economic contraction will be is a significant unknown. The new composition of Congress is probably a positive for the oil-and-gas industry and a negative for alternative-energy concerns.

Given that outlook, I am increasing cautious about the markets. I continue to hold a good amount of cash in my portfolio and I will be looking to increase my shorts in specific stocks in the weeks ahead.