Markets turned in their worst week in months as volatility returned to stocks. For the week, the Dow fell 1.1%, the S&P lost 1.4%, and the Nasdaq fared the worst with a 1.5% drop. Bond prices moved higher as yields fell. Gold had a nice week, rising 2.4%. Oil turned lower, down 1.6% to $48.70 per barrel. The international Brent oil moved down to $52.05.
Source: Google Finance
What started out as a nice week for stocks ended up being the worst week since March. Before getting into the decline, it’s important to discuss where the market was before heading lower because it held some clues that a decline may be coming.
The Dow had risen steadily for 10-straight days through Monday while notching record highs along the way. This made investors very complacent with little fear of a downturn.
The VIX Index, which is considered a “fear gauge” since it rises when there is more fear in the market, recently hit levels not seen in over two decades and traded not far from there early this week. Extreme levels of fear or complacency are often the times when reversals do occur.
The Dow had risen steadily for 10-straight days through Monday while notching record highs along the way. This made investors very complacent with little fear of a downturn.
The VIX Index, which is considered a “fear gauge” since it rises when there is more fear in the market, recently hit levels not seen in over two decades and traded not far from there early this week. Extreme levels of fear or complacency are often the times when reversals do occur.
We also saw a lack of trading volume as stocks reached these new highs. High trading volume shows conviction, so the lack of trading volume suggested doubts about these record highs. In fact, at one point the largest index fund in the world, the SPY S&P Index Fund, had the lowest amount of shares traded since 2006. That’s very quiet!
With a market rising 10 days on such little volatility, low volume, and extreme complacency, some investors were getting jittery and looking for a reason to sell. The rhetoric around North Korea this week provided that opportunity to sell and investors flooded for the exits.
Stocks sold off sharply and had their worst day since May. Once quiet, that volatility index shot higher to its highest level since the election.
While the decline was the worst in several months, a longer-term perspective keeps it in context. The decline was modest and we still sit not far from record highs.
With a market rising 10 days on such little volatility, low volume, and extreme complacency, some investors were getting jittery and looking for a reason to sell. The rhetoric around North Korea this week provided that opportunity to sell and investors flooded for the exits.
Stocks sold off sharply and had their worst day since May. Once quiet, that volatility index shot higher to its highest level since the election.
While the decline was the worst in several months, a longer-term perspective keeps it in context. The decline was modest and we still sit not far from record highs.
We should start to get used to the volatility, too, as we expect it to pick up in the coming weeks and months. As you can see in the chart below, we are nearing what is historically the most volatile part of the year.
Getting into some of the news for the week, earnings season is nearing a close and has been very good. According to Factset, earnings are on pace to rise 11% while revenue (what a company earned through sales. Earnings are what remain after costs are subtracted) looks to rise nearly 6%. These are solid numbers and well above estimates, which is one reason stocks had fared so well recently.
Economic data was mostly good this week, too. An employment report showing the amount of job openings and hires, called the JOLTs report, showed a record high in the amount of jobs openings but indicated hiring has been flat.
Worker productivity over the past quarter increased by more than expected, up 0.9%. This number is rather modest, but is an improvement from last quarter’s flat reading.
Inflation was also in focus as inflation at the producer level declined and rose modestly at the consumer level, with both being below estimates. These reports are important because they are a key metric for the Fed’s economic policy. With the readings lower than expected, it suggests the Fed may keep its stimulus policy in place for longer.
Lastly, small business optimism rose over the past month, with a worry about taxes remaining the number one concern.
Economic data was mostly good this week, too. An employment report showing the amount of job openings and hires, called the JOLTs report, showed a record high in the amount of jobs openings but indicated hiring has been flat.
Worker productivity over the past quarter increased by more than expected, up 0.9%. This number is rather modest, but is an improvement from last quarter’s flat reading.
Inflation was also in focus as inflation at the producer level declined and rose modestly at the consumer level, with both being below estimates. These reports are important because they are a key metric for the Fed’s economic policy. With the readings lower than expected, it suggests the Fed may keep its stimulus policy in place for longer.
Lastly, small business optimism rose over the past month, with a worry about taxes remaining the number one concern.
Next Week
Next week looks to be a little quieter for economic data. Notable reports include info on retail sales and industrial production, plus info on housing.
Corporate earnings are winding down, but we’ll still hear from some big names like Wal-Mart and Home Depot.
Also, the minutes from the latest Fed meeting will be released, though we aren’t expected to hear anything new. Several regional Presidents will also be making speeches, which may tell us more about the Fed’s outlook for their economic policy.
Investment Strategy
The recent selloff pushed a number of stocks to attractive levels to us. Prices are still on the high side for the longer run, but we wouldn’t be surprised to see markets move higher from here. There’s still some weakness out there and we’re also approaching a volatile period for the market, so we are keeping a short-term perspective here.
As for our longer term view, our outlook is a little less rosy but still positive. We were hoping to see some pro-business reforms being implemented in Washington – lower taxes, regulations, etc. – but the likelihood of any significant reforms has diminished. The overall business climate is still favorable, which we think will still help the market.
Bond prices have risen and their yields falling, and we believe yields will stay low and prices high for the foreseeable future.
As for the rest of the portfolio, bonds to protect against inflation, or TIPs, remain a good long term hedge for inflation. Floating-rate bonds will do well if interest rates eventually do rise.
Some municipal bonds look attractive for the right client, too. We like buying individual, insured names for these bonds, avoiding muni index bonds if possible. We keep a longer term focus with these investments.
Gold is another good hedge for the portfolio. It is only a hedge at this point – rising on geopolitical issues as a flight to safety.
Finally, in international stocks, we see weakness around the globe and favor neither the developed or emerging markets, though they are looking cheap.
Please note, these day-to-day and week-to-week fluctuations have little impact on positions we intend to hold for several years or longer. Our short and medium term investments are the only positions affected by these daily and weekly fluctuations.
This commentary is for informational purposes and is not investment advice, an indicator of future performance, a solicitation, an offer to buy or sell, or a recommendation for any security. It should not be used as a primary basis for making investment decisions. Consider your own financial circumstances and goals carefully before investing. Past performance cannot guarantee results.
Next week looks to be a little quieter for economic data. Notable reports include info on retail sales and industrial production, plus info on housing.
Corporate earnings are winding down, but we’ll still hear from some big names like Wal-Mart and Home Depot.
Also, the minutes from the latest Fed meeting will be released, though we aren’t expected to hear anything new. Several regional Presidents will also be making speeches, which may tell us more about the Fed’s outlook for their economic policy.
Investment Strategy
The recent selloff pushed a number of stocks to attractive levels to us. Prices are still on the high side for the longer run, but we wouldn’t be surprised to see markets move higher from here. There’s still some weakness out there and we’re also approaching a volatile period for the market, so we are keeping a short-term perspective here.
As for our longer term view, our outlook is a little less rosy but still positive. We were hoping to see some pro-business reforms being implemented in Washington – lower taxes, regulations, etc. – but the likelihood of any significant reforms has diminished. The overall business climate is still favorable, which we think will still help the market.
Bond prices have risen and their yields falling, and we believe yields will stay low and prices high for the foreseeable future.
As for the rest of the portfolio, bonds to protect against inflation, or TIPs, remain a good long term hedge for inflation. Floating-rate bonds will do well if interest rates eventually do rise.
Some municipal bonds look attractive for the right client, too. We like buying individual, insured names for these bonds, avoiding muni index bonds if possible. We keep a longer term focus with these investments.
Gold is another good hedge for the portfolio. It is only a hedge at this point – rising on geopolitical issues as a flight to safety.
Finally, in international stocks, we see weakness around the globe and favor neither the developed or emerging markets, though they are looking cheap.
Please note, these day-to-day and week-to-week fluctuations have little impact on positions we intend to hold for several years or longer. Our short and medium term investments are the only positions affected by these daily and weekly fluctuations.
This commentary is for informational purposes and is not investment advice, an indicator of future performance, a solicitation, an offer to buy or sell, or a recommendation for any security. It should not be used as a primary basis for making investment decisions. Consider your own financial circumstances and goals carefully before investing. Past performance cannot guarantee results.
