Is it the end of the bull run in the US and what should investors do?

Despite a volatile year which saw the implementation of further lockdowns and the nervousness around the Omicron coronavirus variant in the latter months, US markets performed well in 2021.

It was far and away the best performing major stock market delivering a total return, including dividends, of more than 30 per cent.

The main driver of returns was strong growth in corporate earnings as companies benefited from the vaccine bounce and reopening of the economy.

However, this year has begun with choppy trading in US equities, not least the widespread tech selloff which has seen well-loved stocks like Tesla plunge more than 10 per cent.

Concerns over inflation and its persistence, and how the Federal Reserve responds is likely to loom large in investors’ minds.

Fed tightens policy to fight inflation

The Fed recently revealed it is becoming increasingly concerned about inflation and the probability of a March interest rate move is nearly 90 per cent, according to interest rate futures.

Goldman Sachs and Deutsche Bank have both suggested four 0.25 per cent hikes this year.

In meeting minutes published earlier this month, Fed officials indicated they are considering quantitative tightening – a reversal of its huge stimulus programme – shortly after raising interest rates.

The central bank had already intended to wind down its quantitative easing programme but it now looks to be moving far quicker in the face of high inflation which could further spook markets.

‘The Fed has a tough job on its hands – it has used an abundance of extraordinary monetary and fiscal policy tools to get us through, and now has to reverse some of that without derailing the economy,’ says Darius McDermott, managing director of Chelsea Financial Services.

‘We’re coming off a period of very strong, absolute performance for the US equities and I don’t think that will be repeated this year – but we could still see positive returns. I just think those returns will be at a more ‘normal’ level and hopefully we’ll see them coming from across the market cap spectrum, not just the big tech giants.’

Richard Hunter, head of markets at Interactive Investor, notes that interest rate sensitive stocks like banks proved popular ahead of the reporting season.

For banks, low rates reduce the margins to be made on lending and uncertain job markets bring the prospect of bad loans being written off. 

For financial services, customers confident in their finances are more likely to purchase savings, investment and insurance products.

‘Although it is extremely unlikely that rates will rise to historical levels, there is nonetheless an improvement in sentiment given that the impending environment should improve prospects for the banks over the coming months,’ says Hunter.

While the likes of Goldman Sachs and JP Morgan saw their share prices rise sharply at the start of the year, they have started to fall back amid a sell-off in the Treasury bond market as investors start to adjust their portfolios in the face of a tighter policy from the Fed.

Tanking Tesla: Its share price has fallen 12.5% since the start of 2022

Could the tech selloff continue?

The strong performance in US markets last year is in large part due to its exposure to high-growth technology shares which have benefited from the pandemic.

Five technology stocks – Alphabet, Apple, Microsoft, Facebook and Amazon – represent around a quarter of the S&P and nearly a fifth of its sales.

‘These shares have also benefited from persistently low interest rates which increase the value in today’s money of their long expected stream of future profits,’ says Tom Stevenson, investment director at Fidelity.

But since the start of 2022 there has been a particularly sharp selloff of tech stocks, including Tesla whose share price has sunk 12.5 per cent, in the wake of the Federal Reserve’s meeting minutes.

Ark Invest’s Innovation ETF, which is seen by some as a good indicator of the health of US tech, is also down over 17 per cent this year.

No doubt the current economic backdrop will persist for some weeks but is it indicative of a more permanent shift in US markets?

Growth stocks have certainly taken the brunt of the pressure but Hunter says: ‘Interest rates should settle at a relatively low level by historical standards, which in turn could provide some future relief to the sector.

‘Despite the understandable rotation given the economic backdrop, it may also be fair to say that you ignore the tech giants at your peril, since there is plenty of scope for further growth.

‘Many of them have dominant, and in some cases, unassailable positions in their market and are prime examples of what Warren Buffet would describe as having a “moat” around the business, namely a competitive advantage which allows the company to maintain both pricing power and higher profit margins.’

It is a view also held by McDermott, who is rather more bullish despite increased regulatory and tax issues which could make life difficult for some of the tech giants.

‘Could there be another selloff? Yes, of course. But then you might want to add on the dip. 

‘It is difficult to see the world going less digital, so those with established services and products, such as Alphabet, Amazon and Apple are likely to continue to do well regardless.’

Google owner Alphabet was the best-performing big tech stock last year, and while it has slipped slightly since the start of the year it remains unrivalled. 

The vast majority of its revenues come from Google’s advertising business, which has proved resilient during the pandemic. Even with privacy changes, it has held up better than other companies like Facebook, now Meta, and Snap.

Even Apple continues to defy the odds with iPhone sales and analysts expect revenues to hit $118billion when they report next week.

With earnings season around the corner, experts say that investors who want to gain exposure to these US behemoths may want to consider holding both growth and cyclical stocks.