Old North News

High inflation throughout the year has taken a toll not just in terms of people cutting back on discretionary spending, but also in terms of people dipping into their savings plans, Vanguard representatives say.

Hardship withdrawals, despite IRS penalties, hit a record high in 2022, demonstrating a decline in the financial stability of households and spelling a future “deterioration” in the financial health of people. 

“The recent increase in households drawing on their employer-sponsored retirement accounts, however, could be a sign of some deterioration in the financial health of the U.S. consumer,” Fiona Greig, Vanguard’s global head of investor research and policy, said on the corporate website. 

The share of workers taking cash from their employer retirement plans through new loans, non hardship withdrawals, and hardship withdrawals has risen in 2022. The most concerning trend, in Vanguard’s opinion, is the record high for hardship withdrawals, which are permitted only to cover an "immediate and heavy financial need.” As such, they are subject to income taxes and a potential 10% early withdrawal penalty from the IRS. With all three indicators increasing in 2022, Vanguard suggests an increased need for household liquidity.

Consumer sentiment has also nosedived, according to the University of Michigan. In October, the sentiment index for the South region, including North Carolina, was 55.7, compared to 96.2 in October 2019. The current index is 57.9 compared to 110.3. The consumer sentiment index is the leading economic indicator for trends in the U.S. economy based on responses from consumers on whether they are going to spend, how they spend and what they will spend on. 

Vanguard researchers also said that investors are feeling more pessimistic about the short-term outlook for financial markets. That assessment was reached after a survey of more than 2,000 Vanguard investors, as well as an analysis of data on the accounts of roughly 5 million employer-sponsored retirement plan participants in approximately 1,700 plans administered by Vanguard. The survey found that investors expect the U.S. stock market to rise by a mere 0.6% over the next 12 months, the lowest level since the survey began in 2017. They are more optimistic about the long-term outlook, expecting an average annual stock market return of 7.2% over the next 10 years.

To go along with that, investors are more worried now about extreme events such as a stock market crash or a sharp economic downturn. In the survey, investors estimated the chance of a stock market disaster in the near term at 8.2%, a five-year high. This means that investors believe there is a 1-in-12 chance that the market will drop by 30% or more in the next 12 months. The probability of an economic disaster, defined as an average of -3% annual Gross Domestic Product (GDP) growth over the next three years, rose to 8.0%. This is on par with the second quarter of 2020, just after the COVID-19 outbreak and while the market was experiencing unprecedented volatility. 

”Investors may increasingly be worried about the prospect of a stock market crash or a recession in the short term,” Andy Reed, head of investor behavior research at Vanguard, said. “Overall, our findings suggest that investors acknowledge the possibility of worst-case scenarios and are bracing for short-term pain, but still maintain a positive outlook over the long run.”

The survey results indicate that despite talks of recession, investors expect annual GDP growth to average 2.7% over the next three years. This is not far from its historical average of 3% since 1960. The survey also found that there is a growing gap between short-term and long-term expectations, with the 10-year growth figure reaching a new high of 4.2%, while the three-year expected growth figure was slightly below average. 

"Investors are showing an increasingly differentiated view of the market versus the economy, and long-term versus short-term effects,” Xiao Xu, a Vanguard investment strategy analyst and lead researcher for the survey, said.

Vanguard has been conducting a bimonthly survey on the U.S. stock market and economic growth expectations since February 2017. The survey is conducted in partnership with academic researchers from the Yale School of Management, the Stanford Graduate School of Business and the New York University Stern School of Business. 

The survey is sent to a random sample of 2,000 Vanguard retail and 401(k) investors. The sample group holds approximately $2 trillion in assets at Vanguard. The responses from the survey may be useful for advisors, plan sponsors, researchers and other investors who wish to gauge current sentiment among individual households and compare it to the market.