This has not been an easy quarter for investors, especially those that are late to party. One of the themes for the last few months is the return of volatility. As you can see in the chart below, the US stock market was giving you above average stock market returns while exhibiting below average stock market volatility. The one-sided gravy train came to a screeching stop on January 26th.
Over the course of the past 3 months, the S&P 500 experienced 6 trading days of +/-2% moves, juxtaposed to 2017 when we saw zero such moves, which has resulted in a bumpier ride for equity investors. But has the ride for stocks been particularly bumpy this year? The reality is that daily moves of 2% or greater up or down are not all that uncommon. Since 1980, U.S. equities have averaged 15 such occurrences a year, with years of above-average incidents tending to be clustered together.
It is reasonable to expect significant daily moves to continue from time to time this year, as investors debate the effects of higher interest rates, the direction of inflation, the impact of fiscal stimulus, the evolution of trade tensions and the timing of the next recession. Clearly, there is more to consider and digest this year compared to last year, with risks to the outlook now to both the upside and the downside. However, while the market may swing meaningfully from one day to the next, investors should be careful not to overreact to new information one way or the other.
2% daily moves are not all that uncommon
Number of daily moves greater than 2% up or down, S&P 500 price index
Global Risk is Rising
- With the announcement of steel and aluminum tariffs and the more recent tariffs of up to $60 billion on Chinese imports, trade war concerns are elevated. At this point we believe the evidence suggests that the situation won’t deteriorate from a trade spat to a trade war, as both Canada and Mexico are exempted from the steel and aluminum tariffs; while FactSet is reporting that the United States is continuing to negotiate exemptions for the European Union and Australia—not exactly the mark of a trade war. Fortunately, we haven’t seen a trade war in over 90 years for a lot of good reasons, including economic destruction they caused in the 19th century, increased globalization, longer supply chains, and The World Trade Organization dispute resolution process.
Fair & Balance – Now let’s look at the positives:
- Corrections are always unnerving, especially because they tend to be processed over time as opposed to condensed moments in time. Traditional stock market fundamentals remain supportive of an ongoing bull market. The U.S. economy doesn’t look to be anywhere near a recession, which has historically accompanied bear markets. The Index of Leading Economic Indicators rose again in March, continuing a robust uptrend. These leading indicators include initial unemployment claims, which recently hit a 45-year low.
- According to Thomson Reuters, the estimated first quarter year-over-year growth rate for S&P 500 is 18.5%, which would be the highest rate of growth in seven years. That’s a pretty high bar to reach, but judging by the optimism shown in recent readings from the Institute of Supply Management, the National Federation of Independent Business, and The Conference Board’s CEO Confidence Survey, it should be a pretty optimistic tone coming from much of the corporate sector.
- The U.S. economy should have a tailwind that is just beginning due to the tax cuts that the majority of Americans are now incorporating into their budgets. Additionally, we can put worries of another government shutdown to bed, as a new spending bill—the merits of which can certainly be debated— passed, which should add to near-term economic growth. Caveat: the timing of fiscal stimulus—coming much later in the cycle than is typically the case—does elevate the risk that inflation heats up, which could push the FOMC to tighten more quickly.
Blah Blah Blah…. So What?
Sharp moves and stocks continuing to flirt with correction territory have been the hallmarks of the market lately. This probably isn’t the start of a bear market, but it doesn’t “feel” like a bull market right now. The current trend is missing conviction as the jittery stock market hops up and down. But that behavior isn’t unusual after a pullback. In fact, based solely on prices, it’s too soon to tell if this is a cyclical/non-recession bear market or just a bull market correction. In either case, stocks tend to bounce around before re-establishing a trend. We expect this to continue to be the case as there are still a variety of factors affecting the markets; including worries over global trade and the potential for increased regulation in the tech sector, balanced by the confidence seen in robust M&A activity and expectations for double-digit earnings growth for the first quarter.
While unnerving at times, we continue to believe the economic and earnings environment should support a continuation of the bull market, albeit with more volatility, some elevated risks, and bumpy charts in the near term. We continue to espouse the benefits of periodic and disciplined rebalancing to take advantage of this volatility, along with reasonably long time horizons.