It’s a little early
for Halloween, but markets sure got spooked last week. After a 21-month ride to
mid-September highs, stock markets jolted and shook investors last week like
the most dramatic and scream-inducing rollercoaster at an amusement park’s
fright night. Barron’s described it like
this:
“The Dow Jones
Industrial Average endured dizzying swings each day, with a 460-point move
midday on Wednesday. That’s when the market came closest to hitting a
correction phase – that is, down 10 percent from the highs. The Standard &
Poor’s 500 index fell to 1,820.66, or down 9.5 percent intraday from the
all-time closing high of 2011.36, before closing on Wednesday down 7.4 percent
from highs.”
Despite the wild
ride, by Friday’s close, major U.S stock indices were down about 1 percent for
the week.
Restoring some perspective
After a week like last
week, it’s important to take a deep breath and cast a calm eye over current
financial and economic circumstances. This can help restore perspective and ensure
sound decision-making. Here are a few points to consider:
Ø Markets go through corrections: Last week’s drop
didn’t quite meet the definition of a market correction, but it came close. It’s
no secret stock market corrections can be unnerving but, as Kiplinger’s explained recently, “Corrections
are an inevitable part of investing. Since 1932, declines of 10 percent to 20
percent (the traditional definition of a correction) have occurred an average
of every two years, according to InvesTech Research.” Based on history, 10
percent corrections are normal and to be expected. It has been three years
since our last correction.
Ø There is a lot happening in the world: ‘When it rains, it
pours,’ as they say. A whole host of factors contributed to last week’s market
volatility. Let’s take a brief look at some prominent concerns:
§ Monetary policy
adjustments in the United States. The Federal Reserve
has been moving away from the highly accommodative monetary policies it has pursued
in recent years and that has some investors worried. Quantitative easing is
expected to end this month. The next step is raising the Fed funds rate which
is expected to happen next year. Last week, St. Louis Fed President James
Bullard reassured markets when he suggested, “The central bank should extend
its asset-purchase program when policy makers meet later this month. U.S.
stocks erased losses and Treasury yields rose on expectations the Fed will take
action to insulate the United States from global economic weakness,” reported Bloomberg.
§ Possible deflation in
the Eurozone.
It’s not here yet, but some Eurozone countries have fallen back into recession
and the region is showing no growth. The European Central Bank reduced rates in
June and September and is expected to begin a round of bond buying next week.
These efforts may improve productivity and spur growth.
§ The strengthening
U.S. dollar
could
affect global liquidity. While a strong dollar has potential to slow
growth in emerging countries, liquidity issues may be balanced out
by the effect of falling oil prices. Reuters
reported, “The falling oil price… will improve household budgets in the United
States hugely – one study from Citi estimates the global windfall so far at
$660 billion which includes a $600 per-household bonus in the United States.” More
money in the pockets of U.S. consumers may translate into stronger emerging market
economies.
§ Slowing overseas
economic growth. Slower growth in China
is affecting markets around the world. Germany has experienced some economic
weakness recently. Brazil is in recession. U.S. economic growth is slow but
steady and is not expected to change.
§ The potential spread
of Ebola.
“This is a terrible human tragedy but Ebola’s transmission – through bodily fluids
– appears to be more difficult than SARS… The cost will be high in human terms
but, so far, there is nothing to suggest it won’t eventually be contained,”
reported Barron’s.
§ Political unrest and
military conflicts persist. Ukraine, the Middle East, Hong Kong, and other
regions of the world are embroiled in conflict. Unrest often impedes economic
growth.
When you add to the
mix human emotion and anxiety that has lingered since the financial crisis, you
create the potential for a week like the one we just had.
Ø Growth is healthy in the United States: Despite last week’s market
volatility, U.S. stock market fundamentals haven’t changed. Barron’s said:
“Fundamentally, the
market is fairly valued, but not overvalued, and the economic backdrop remains
healthy. The U.S. economy looks to be growing at a healthy pace – 4.6 percent
in the second quarter and an estimated 3 percent in the third. Third-quarter
earnings are expected to rise 5.1 percent year-to-year, according to FactSet.
Employment and manufacturing growth reaffirm the trend and, while retail sales
slipped 0.3 percent in September, falling gasoline prices have boosted consumer
confidence.”
Barron’s also pointed out
that, at Thursday’s close, 35 percent of the companies in
the Standard & Poor’s 500 had dividend yields that were higher than the 2
percent yield on 10-year U.S. Treasuries. The point being, market downturns
often create opportunities.
Ø Accommodative monetary policy has suppressed volatility: The Fed’s policies
have kept market volatility lower in recent years than it might have been
otherwise. If you think back, you may remember the Chicago Board Options
Exchange's Volatility Index (VIX), also known as Wall Street’s fear gauge, was
at extraordinarily low levels this year. It moved from 12 to 26 during the past
month. The historical average for the VIX is 20, and it reached 80 during the
financial crisis. We need to get used to the idea that markets are likely to be
more volatile as monetary policy normalizes, according to experts cited by Barron’s. The thing to remember is
market fluctuations are not unusual. They may make us uncomfortable, but they
should be expected.
Maintaining a disciplined approach
As you know, we have
a disciplined investment process that was designed to help you work toward your
financial goals. While we monitor economic and market developments closely, we
don’t let the noise of day-to-day events determine our actions. We will not
take action until our process indicates we should. It’s important for you to
understand we make decisions about your account all the time, and much of the
time we decide to do nothing. Although no strategy is assured success or
protection against loss, we have confidence in our process. It is the reason we
sleep well at night.
Weekly Focus – Think About It
“Wealth is the ability to fully experience life.”
--Henry David Thoreau, American author
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