2021 was another great year for American equities. The S&P 500 index rose by about 27%, while the Dow Jones rose by about 20%. The tech-heavy Nasdaq 100 index climbed by 22%. The same trend was seen in their respective Exchange-Traded Funds (ETFs) like the SPY, Invesco QQQ, and DIA. In this article, we will explain why these indices rose in 2021 and what we should expect in 2021.
Federal Reserve
The biggest driver for the SPY, QQQ and DIA in 2021 was the Federal Reserve. In its response to the Covid-19 pandemic, the Fed swung into action. It decided to slash interest rates to a record low of between 0% and 0.25%.
In addition to this, the bank decided to fire up its printing press through what is known as an open-ended quantitative easing program. Subsequently, the Fed managed to print more than $4 trillion and channel the funds to the market.
In most cases, investors tend to move to stocks and other risky assets when interest rates are low. This also explains why assets like cryptocurrencies and commodities surged in 2021.
It is worth noting that the Fed was not the only central bank to embrace a dovish tone during the pandemic. Most banks like the European Central Bank (ECB), Bank of England (BOE), and Swiss National Bank (SNB) also embraced that tone.
Covid-19 and vaccine hopes
The SPY, QQQ, and DIA also rose because of optimism that the world will ultimately deal with the Covid-19 pandemic. As you recall, the UK became the first country to start inoculations in December 2020. Shortly afterward, most countries like the US and European Union started delivering millions of vaccines from companies like Pfizer, BioNTech, and Moderna,
The theory behind this was simple. More vaccinations would lead to low Covid infection rates, which would lead to more demand and labor participation.
To a large extent, the situation got relatively worse in 2021, although all US states ended lockdowns. While many Americans are vaccinated, the number of new Covid-19 infections rose this year. Also, the number of Covid deaths in 2021 was higher than those in 2020.
Corporate earnings
Another key factor that contributed to the strong performance of American equities in 2021 was corporate earnings. Results in the first three quarters of the year showed that most companies reported strong results.
Most of the best performers were big tech companies like Microsoft, Google, and Amazon. For example, Microsoft’s revenue rose by 19% in the first quarter, followed by 21% and 22% in the other quarters.
In addition to big tech, other industries that recorded strong results were in the energy and aviation sector. Indeed, the energy sector was the best performing segment in the S&P 500 index as the prices of crude oil and natural gas rose.
Key drivers for SPY, QQQ, and DIA in 2022
There will be a number of key drivers for the SPY, QQQ, and DIA in 2022. Let us look at some of them.
Geopolitics
The three indices will react to the geopolitical events among the biggest countries in the world. For example, there are ongoing risks between western countries and Russia about Ukraine. Russia has accused NATO countries of trying to recruit Ukraine, the neighbor.
Western countries, on their part, have accused Russia of attempting to attack Ukraine. Therefore, with tensions rising, there is a likelihood that escalation will have an impact on stocks.
There are also geopolitical tensions between the US and China. The US has accused China of a number of things, including human rights in Xianjin. Also, there are tensions about Chinese companies that have been listed in New York. Most importantly, there are issues about Taiwan, a territory that China is claiming. An escalation of these tensions will have an impact on US indices.
Federal Reserve
Like in 2021, the Fed will have an impact on American stocks. The bank has already hinted that it will end its asset purchases in March 2022 and then implement about 3 rate hikes. Historically, stocks tend to underperform when the Fed is in a hawkish tone. For example, 2018 was the worst year for the S&P 500 index in the past five years. In that period, the Fed implemented four rate hikes.
American politics
Another key driver for the three American indices will be the American political circus. In the first half of the year, the indices will react to the Build Back Better (BBB) plan by Joe Biden. The plan requires the support of all Democratic Senators. With Senator Manchin opposing the bill, investors will watch out for key developments.
Another key political factor that will have an impact on stocks will be the midterm elections. With Joe Biden’s approval rating falling, analysts believe that Republicans will take back the two houses. If this happens, it means that there will be gridlock in Washington, making it impossible to pass bills.
Corporate earnings
The SPY, QQQ, and DIA ETFs will also be influenced by corporate earnings. Most analysts believe that earnings will start slowing down in 2022. According to FactSet, the earnings of S&P 500 companies will grow at a slower pace of 9.2%. In 2021, earnings rose by about 45%. These earnings will be affected by the rising inflation and the fact that many companies are going through supply chain disruptions.
As a result, analysts at BMO Capital Markets expect that the S&P 500 index will rise by about 12% in 2022 after rising by about 28% in 2021. Those at Wells Fargo expect that the S&P 500 index will rise by between 10% and 14%, while those at Credit Suisse and Goldman Sachs see it rising by 10%. In all, most investment banks expect that the SPY index will rise by between 8% and 15%.
Final thoughts
Stocks had an excellent year in 2022 as investors cheered low-interest rates and the overall growth of the American economy. While stocks will generally do well in 2022, I expect that the overall returns will be lower than what they returned in 2021.
