Please note: Next week will be our very last of these weekly newsletters. Unfortunately it’s getting increasingly difficult to find the time to put these reports together. We’ll still send out notes when market conditions warrant a commentary, but they will not be on a weekly basis. We hope you’ve enjoyed reading these commentaries and we look forward to still communicating with you in the future.
It was an awful week for investors as stocks turned in their worst week since at least 2011, depending on the market. Through the close Friday, the Dow dropped 6.9%, the S&P lost 7.1%, and the Nasdaq plunged 8.4%. Bond prices rose sharply (and yields fell) as investors moved into safer investments. Gold was a refuge as it rose 1.4%. Oil prices hit their lowest level in 17 months with a drop of 11.3% to close at $45.42 per barrel. The international Brent oil, which is used for much of the gas here on the East coast, moved down to $53.50.
It was an awful week for investors as stocks turned in their worst week since at least 2011, depending on the market. Through the close Friday, the Dow dropped 6.9%, the S&P lost 7.1%, and the Nasdaq plunged 8.4%. Bond prices rose sharply (and yields fell) as investors moved into safer investments. Gold was a refuge as it rose 1.4%. Oil prices hit their lowest level in 17 months with a drop of 11.3% to close at $45.42 per barrel. The international Brent oil, which is used for much of the gas here on the East coast, moved down to $53.50.
It looks like investors got a lump of coal for Christmas (how’s that for a clever Christmas pun?). After a sharply lower week, stocks are back to levels last seen in 2017…
…And volatility continues to rise…
…With this December shaping up to be the worst one since 1931.
So what is going on?
As we’ve often discussed, the removal of stimulus by the Fed is like getting off a pain killer after being on it for a decade. Things are starting to hurt more and cracks from the malinvestments made during that period are beginning to form (like rising debt levels).
With that in mind, the Fed policy meeting this week received the most attention. Last meeting, Fed chief Jay Powell made comments that suggested he was willing to not pull back on the stimulus as much and markets rose on the news.
This meeting his comments were similar. While they raised interest rates this month (which makes it more expensive to borrow money), they forecasted fewer rate hikes next year. They acknowledged some weaknesses in the economy, but noted that it was strong overall.
That doesn’t sound too bad, does it? Apparently it did to many investors and stocks sold off sharply.
As we’ve often discussed, the removal of stimulus by the Fed is like getting off a pain killer after being on it for a decade. Things are starting to hurt more and cracks from the malinvestments made during that period are beginning to form (like rising debt levels).
With that in mind, the Fed policy meeting this week received the most attention. Last meeting, Fed chief Jay Powell made comments that suggested he was willing to not pull back on the stimulus as much and markets rose on the news.
This meeting his comments were similar. While they raised interest rates this month (which makes it more expensive to borrow money), they forecasted fewer rate hikes next year. They acknowledged some weaknesses in the economy, but noted that it was strong overall.
That doesn’t sound too bad, does it? Apparently it did to many investors and stocks sold off sharply.
Some news reports indicated that many investors thought they would forecast zero rate hikes next year instead of the two. We saw that as completely unrealistic – economic growth is over 3% and corporate earnings are solid. While there are some areas of weakness – which they acknowledged – there has to be some rate hikes to get back to a more “normal” level.
One area we did find questionable was their comments on the Fed’s balance sheet. This is all the money the Fed printed to buy government bonds over the last decade and it stood at an astronomical $4.5 trillion at one point (keep in mind, a trillion is a massive number. It would take almost 32,000 years to count to one trillion by seconds).
The Fed is “un-printing” money now and shrinking that balance sheet. The balance now stands just over $4 trillion.
We found questionable the Fed’s comments that the unwind of this balance sheet is not a cause of instability and they will continue to “un-print” $50 billion a month. As you can see in the picture below, the periods of instability in the market have been when the Fed paused their printing. Now they are shrinking the balance sheet.
One area we did find questionable was their comments on the Fed’s balance sheet. This is all the money the Fed printed to buy government bonds over the last decade and it stood at an astronomical $4.5 trillion at one point (keep in mind, a trillion is a massive number. It would take almost 32,000 years to count to one trillion by seconds).
The Fed is “un-printing” money now and shrinking that balance sheet. The balance now stands just over $4 trillion.
We found questionable the Fed’s comments that the unwind of this balance sheet is not a cause of instability and they will continue to “un-print” $50 billion a month. As you can see in the picture below, the periods of instability in the market have been when the Fed paused their printing. Now they are shrinking the balance sheet.
We think this is a major source of instability and also proves how difficult it will be to get out of the world’s biggest stimulus program without any casualties.
Also adding to the volatility this week was the threat of a government shutdown. As it stands now, Congress is still working on a deal to prevent the shutdown but a deal still seems unlikely. A shutdown isn’t the worst thing in the world for investors as markets have historically been flat during past shutdowns.
Lastly, economic data was good, though maybe not as good as estimated. Housing is improving after having a rough patch due to higher borrowing costs, but those costs have fallen recently due to the market volatility.
Durable goods figures also showed growth, though not as much as economists were predicting. The last look at third quarter GDP was also released this week, showing the economy growing at 3.4%, which is respectable.
Also adding to the volatility this week was the threat of a government shutdown. As it stands now, Congress is still working on a deal to prevent the shutdown but a deal still seems unlikely. A shutdown isn’t the worst thing in the world for investors as markets have historically been flat during past shutdowns.
Lastly, economic data was good, though maybe not as good as estimated. Housing is improving after having a rough patch due to higher borrowing costs, but those costs have fallen recently due to the market volatility.
Durable goods figures also showed growth, though not as much as economists were predicting. The last look at third quarter GDP was also released this week, showing the economy growing at 3.4%, which is respectable.
Next Week
It’s a short week next week, with the market closing early on Monday and closed for Christmas on Tuesday. It will also be light for trading volumes, which often results in a more volatile market, so there might not be much relief.
Next week looks to be fairly quiet for economic data, where we’ll get more reports on housing and little else of note.
Investment Strategy
Stocks were oversold (cheap) on a short term basis last week, so they look super-cheap right now – but that doesn’t mean they can’t get cheaper. We’re not trying to catch a falling knife here so we would wait for some strength before doing any buying.
It will be interesting to see if there is any buying into the end of the year. There is something called the “Santa Clause rally,” where stocks historically rise the 5 days before the New Year and two days after.
We won’t get into “why” this occurs, but will note that the market could be in for a rough ride if there is no Santa Clause rally. The last six times there was no Santa Clause rally, the next year the market was either flat or down sharply.
As for the longer term direction of the market, we’re currently seeing some of our long term concerns play out. We’ve constantly written that the economy looks promising, but the removal of stimulus has historically pulled markets lower. As you can tell by the events of recent months, that battle is currently playing out. Hopefully some equilibrium between the strong economy and falling market will form, but it’s anyone’s guess as to if or when that will be.
Bonds are also volatile at this time. Bond prices are extremely high and yields low on a short term basis and we don’t think they have much room to run from here. We think they’ll remain stuck in the range they’ve seen over the last few months, with higher yields and lower prices, and we wouldn’t be surprised to see the volatility continue.
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 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 prefer developed markets to emerging ones at this time.
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.
It’s a short week next week, with the market closing early on Monday and closed for Christmas on Tuesday. It will also be light for trading volumes, which often results in a more volatile market, so there might not be much relief.
Next week looks to be fairly quiet for economic data, where we’ll get more reports on housing and little else of note.
Investment Strategy
Stocks were oversold (cheap) on a short term basis last week, so they look super-cheap right now – but that doesn’t mean they can’t get cheaper. We’re not trying to catch a falling knife here so we would wait for some strength before doing any buying.
It will be interesting to see if there is any buying into the end of the year. There is something called the “Santa Clause rally,” where stocks historically rise the 5 days before the New Year and two days after.
We won’t get into “why” this occurs, but will note that the market could be in for a rough ride if there is no Santa Clause rally. The last six times there was no Santa Clause rally, the next year the market was either flat or down sharply.
As for the longer term direction of the market, we’re currently seeing some of our long term concerns play out. We’ve constantly written that the economy looks promising, but the removal of stimulus has historically pulled markets lower. As you can tell by the events of recent months, that battle is currently playing out. Hopefully some equilibrium between the strong economy and falling market will form, but it’s anyone’s guess as to if or when that will be.
Bonds are also volatile at this time. Bond prices are extremely high and yields low on a short term basis and we don’t think they have much room to run from here. We think they’ll remain stuck in the range they’ve seen over the last few months, with higher yields and lower prices, and we wouldn’t be surprised to see the volatility continue.
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 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 prefer developed markets to emerging ones at this time.
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.
