It was a wild year in many respects, but the stock market turned in a solid performance in 2021. Except for a few brief sell-offs, the S&P 500 gained 26.9% for the year. The Dow Jones Industrial Average (DJIA) gained 18.7% in 2021, while the Nasdaq Composite gained 21.4%.
Time and again, investors brushed off news that could’ve derailed stocks in years past. A contested presidential election, an assault on the Capitol, historically high inflation, supply chain disruptions, naysayers who forecasted a correction that never appeared—none of these events stopped stocks from notching all-time highs. Not even the still-raging global Covid-19 pandemic, or its Delta and Omicron variants.
In fact, the S&P 500 notched 70 all-time highs in 2021, a record that’s second only to 1995.
“What a crazy year it’s been,” says Greg Bassuk, chief executive officer of AXS Investments. “The Covid market is really going to characterize this year, in some ways more so than 2020—it really drove the market direction and narrative.”
The new Covid-19 variants have extended the duration of the pandemic and delayed a return to normal. This has meant the recovery has moved in “more of a lurching fashion than a linear one,” adds Matt Stucky, senior portfolio manager at Northwestern Mutual.
A Market Rife with Speculation, But Little Euphoria
A new breed of day traders kicked off 2021 with a novel speculative mania. Fueled by a desire to upend the status quo and also turn a profit, amateur investors used social media to drive up shares of companies that hedge fund professionals were shorting.
In January alone, video game retailer GameStop (GME) gained as much as 1,700%and AMC Entertainment Holdings (AMC) surged more than 800%. Both stocks are off their highs for the year, but are closing out 2021 way above where they started.
Meanwhile, a rush of companies made the leap from privately held to publicly traded thanks to a flurry of deals via SPACs, or special purpose acquisition companies. And the rampant speculation didn’t end with the stock market. The total market capitalization of the cryptocurrency market tripled during the year, and coins that launched as jokes—think Dogecoin or Shiba Inu—were major market players. Meanwhile, non-fungible tokens (NFTs) became the latest asset du jour.
While Basssuk feels this sort of speculative frenzy will be one of the notable hallmarks of 2021, the nature of the stock market’s winning streak belies a less enthusiastic sentiment among many investors.
“There is no euphoria in this market,” says Neil Hennessy, chief market strategist and portfolio manager of Hennessy Funds. “There is euphoria in little pockets of the market.”
You can see the lack of passion in the fact that fewer stocks were participating in the market’s gains in the back half of the year. While the early months of 2021 saw upwards of 90% of constituents in the S&P 500 trading above their 200-day average, that fell below 60% as the year wore on, according to figures compiled by Yardeni Research.
In early December, just five stocks—Microsoft (MSFT), Google (GOOG), Apple (AAPL), Nvidia (NVDA) and Tesla (TSLA)—accounted for 51% of the S&P 500’s return since April, according to Goldman Sachs research.
A Booming Labor Market and Surging Inflation
While speculative fervor may have cooled and dynamics within the market shifted, investors had reason to remain optimistic because of the very robust economic recovery.
“There has been a really strong fundamental story unfolding from a macroeconomic perspective,” says Stucky. Given that both the economic expansion and bull market were only a matter of months old when 2021 began, the market’s performance isn’t so surprising—and could continue. “Just because we had strong returns in 2021, that doesn’t mean that decent returns aren’t in the cards for 2022, too,” he says.
The labor market recovery has been particularly notable. The U.S. has added 18.5 million nonfarm jobs since April 2020 and the number of people filing for unemployment claims recently reached a 52-year low.
Dynamics have also swung in favor of workers over their employers, which has emboldened millions of workers to quit their jobs at unprecedented rates or demand higher wages. “The labor force has a lot of leverage right now,” Bassuk notes.
But higher inflation, and concerns about how that might derail economic growth and the stock market, was one of the biggest stories of 2021.
The year ended with the Consumer Price Index (CPI) rising at the fastest clip on an annual basis since the early 1980s, meaning that it’s the first time that many consumers and investors alike have contended with this type of inflation.
“Most folks haven’t really lived through big sticker shock,” Bassuk says.
Because consumer spending accounts for more than two-thirds of gross domestic product (GDP), investors spent much of 2021 trying to make sense of a mixed bag of good and bad news for Americans. While consumer confidence surveys show that Americans haven’t yet returned to pre-pandemic levels of optimism, their activity suggests otherwise.
“It’s been a tale of two consumers,” says Bassuk. “The messaging is that consumers hate the economy and yet, they’re running out and shopping like they love it.”
The Federal Reserve Is Taking Away the Punch Bowl
The story of the stock market in 2021 wouldn’t be complete without mention of the Federal Reserve. “What made 2020 and 2021 so strong was the recovery from a macro perspective and a really, really strong push from a policy perspective,” says Stucky.
Throughout 2021, the Fed kept interest rates near zero and continued pumping billions of dollars into markets each month—measures that encouraged investors to seek out higher-returning assets, like stocks, and contributed to higher inflation.
But investors are keenly aware that the Fed’s support will inevitably end. The big question on Wall Street for much of 2021 was when that would go down
The Fed has announced plans to end its monthly bond-buying program by March 2022, and policymakers have indicated plans to increase the fed funds rate at least three times in the new year to temper inflation.
As the Fed eases up its support, investors will once again focus more on whether the fundamentals that drive stock prices—the pace of economic growth and corporate earnings—can support another year of double-digit gains.
For now, investors are closing the chapter on what Bassuk sums up as a “very good year for the stock market.”
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