For the US stock market,

–2017 was all about discounting the tax law change being passed by Congress that would cut corporate taxes by around a quarter

–2018 and 2019 were all about the inept, economic growth-inhibiting policies of the Trump administration, with a slowly building undertone of capital flight. Both implied favoring multinational businesses and firms with intangible assets over US-based plant and equipment

–2020 was mostly about the pandemic-induced stay-at-home economy plus Trump’s inept “drink bleach” response to–and the possibility he would be reelected. Stay at home was a new element. Otherwise, until November, 2020 was 2019 on steroids. Once Trump lost, covid remained a key issue but the market began to broaden out to include domestic names

–2021 has had two different, though interrelated, themes. Around mid-February, the availability of large amounts of vaccine began to lessen the attractiveness of stay-at-home. The counter move, back-to-normal, has been relatively slow to develop, however, but could easily be an important part of investor thinking in 2022.

Second, the robustness of the US economic bounceback this year, which has been much stronger than elsewhere in the OECD, has caused the Fed to decide to reduce its emergency monetary stimulus earlier than it and Wall Street had initially thought. This means higher interest rates–they couldn’t be lower than now, anyway–in 2022. I’m planning with the idea in mind that the 10-year Treasury, now yielding about 1.5%, will end up at about 3% before Fed tightening is done, maybe a year from now. Maybe that’s too high, but I think it’s better to assume a number that’s too high than to underestimate the scope of upcoming tightening.

The idea of a ten-year instrument with an interest yield of 3% in the near future is likely worse for bonds as an asset class than for stocks, since the S&P has a dividend yield that’s slightly higher than the 10-year and because stock valuations will generally be underpinned by what I expect will be considerable US-driven earnings growth next year. Within the stock market, however, interest will likely be focused away from the concept-driven, earnings-poor “story” or “concept” stocks that thrived in a zero interest rate world toward perhaps more prosaic names that will be exhibiting strong earnings expansion.

I think that looking at the course of ARKK, the flagship Cathie Wood-managed fund, illustrates how much of this has already happened.

In mid-February 2021 ARKK had gained +23.2% ytd (S&P at +5%). By mid-May the fund was down ytd by -23.2% (S&P at +12%). I attribute this fall to the shift away from stay-at-home.

By early November, ARKK had rallied to -1.6% (S&P at +24%). As I’m writing this, however, the ETF has fallen to -26.1% ytd. This compares with the S&P at +25%. I read this as the stock market beginning to discount the end of the zero interest rate “free money” environment. Unlike the case with stay-at-home stocks, the most important factor with “story” stocks is not that the earnings prospects for early-stage companies have diminished. It’s that the market is coming to believe that the opportunity cost of holding these names is about to increase by a substantial, but as yet unknown amount (which makes the situation worse).

Experience tells me that the decline/revaluation in concept stocks is closer to its start than to its finish. On the other hand, the reaction to disappointing earnings reports has been jaw-dropping. Docusign, which I know nothing about other than that I’ve been a user, fell by 42% on its last report. Again, I have no real idea why. I surmise, however, that AI selling encountered a complete disappearance of potential buyers. It could be that for a (possibly long) while these names will be in a bear market of time rather than of continuing diminishing valuation, although I wouldn’t want to bet that this will be the case.

Where will money flow to? My guess is that the Consumer Discretionary sector will be a big beneficiary. One of my sons is suggesting the mega-cap tech names. That’s probably right, too, especially since IT + Communication Services together make up over 40% of the market cap of the S&P.

more tomorrow