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To quell inflation, in March the Fed increased interest rates for the first time since 2018, bumping the targeted range for the federal funds rate by a quarter point to 0.25%-0.50%. Officials’ projections also reflected expectations the rate will increase to nearly 2% by year end, modestly higher than pre-pandemic levels. The median forecast from Fed officials also reflects rates increasing to approximately 2.75% by the end of 2023. Investors are looking at this forecast with a skeptical eye, as market expectations for 2023 reflect rates higher than that.

The Fed’s anticipated actions have led to a rapid rise in Treasury rates. Since the start of the year, 10-year Treasury yields have increased from around 1.50% to approximately 2.75%. The impact can be seen in rising consumer borrowing costs. For example, 30-year mortgage rates are now approaching 5.00%, significantly higher than the sub-3.00% rates available over much of 2021.

There are concerns about what this means for affordability. Higher rates also put pressure on P/E multiples, meaning heavier reliance on earnings growth to move the market forward. Earnings are expected to be solid in the coming year, with consensus expectations of just under 10% earnings growth in 2022. Also, real yields — the rate investors receive on government bonds after subtracting inflation — remain negative, providing investors incentive to seek out assets farther out on the risk spectrum.

While there remains a great deal of macroeconomic uncertainty, the economy today looks to be in reasonable shape and private balance sheets remain relatively strong. The uncertain environment reinforces the importance of investing in growing companies with strong fundamentals and reasonable valuations. For instance, check out any of our three recommended stocks for subscribers in the May 2022 issue of the subscribers' edition of the IAS newsletter.

These companies include a midsized communications equipment maker with opportunites to grow baseline organic sales as well as move into adjacent markets, a large national automotive dealership network that has benefited from demand for used vehicles in the last few years while its business model is poised to deliver continued returns in the future, and a midsized business services company that specializes in corporate payment systems and has plenty of space in to which they can expand.

Reprinted from the May 2022 issue of the Investor Advisory Service stock newsletter, rated #1 for performance in 2021 by Hulbert Ratings.

For more information about the Investor Advisory Service, to download a sample issue, or to subscribe to the best investing newsletter in the U.S. for long-term consistent returns, visit Investor Advisory Service.