What is going on in the market
and why the recent volatility?
The stock market has experienced a real increase in volatility and in some ways, this is not a surprise after so many years with very low volatility. In an effort to make wise investment decisions today and going forward, it is helpful to reflect on what some of the drivers are to this type of movement. What is so interesting this time around is that the market is experiencing this volatility in what appears to be a time of increasing fundamental strength in corporate earnings. As a whole, I am expecting to see strong first quarter earnings – beginning to reflect some of the benefits from the recent tax cuts and continued reduction in regulations.
There are four categories of events that are contributing to the type of movement we are experiencing right now. I’m sure these are not the only factors – yet they are certainly involved.
“Uncertainty” is at the heart of
the four categories listed below:
Our new FED (Federal Reserve) chairman – Jerome Powell and recent testimony: At the forefront of this are Interest Rates and the FED’s work as the economy begins to expand and grow. The chain of events and factors in action are: Increased opportunity in a growing economy, which leads to a tightening of the labor force, which leads to greater inflation – we begin to experience wage inflation which is ultimately passed on to the consumer. The FED’s role in this is to increase interest rates as necessary in order to keep things from overheating in the inflation arena. You see this play out as the market tries to anticipate inflation and the FED’s direction as a result.
So, what has been happening with interest rates over the past few months? If you consider the above information you would expect to see yields gradually increasing as the FED raises rates. But is this the case? It’s so interesting that the yield on the 10 Yr. Treasury bill has in fact decreased from 2.94% on Feb. 21st to 2.74% this past Friday. This is actually contrary to all of the “talk” happening in the media. The reason I mention this is to highlight the facts rather than the rhetoric that is being talked about. If inflation were rampant right now, yields would be rising and not falling.
Tariff’s: As we speak our second year President is leading the charge on putting in place trade tariff’s in an effort to even the playing field on goods and services being traded globally. Once again this creates major uncertainty as we don’t really know how this will affect the revenue and earnings of companies. In fact, we really don’t know whether anything significant will change, because right now there is more talk than action. The process of negotiating may lead to prosperity – yet the uncertainty creates fear, thus, short-term volatility in the market.
VIX (volatility index): As the VIX rises – we are seeing increased selling, partly driven by the funds that are set up to sell as the VIX rises and then buy as it falls. This is part of why we are down hard one day then up strong the next. I thought it would be helpful to see a chart of the S&P 500 to see one encouraging fact. The 200-day moving average in this index has been holding as support to the market. Notice the first leg down in Feb. – was on Feb. 9th, 2018 – hit 2532.69 and held (bounced back up for the day – new buying came in). On March 23rd, 2018 the index came back down to 2585.89 the 200-day moving average and bounced again. What is encouraging is that the 200-day moving average is still sloping up – has not turned down as of yet and each time we have reached that low – buyers have come in establishing a floor for now. See the chart below:
Dow Jones Industrial Average
“Uncertainty” creates fear of the unknown. Lack of confidence in how things will turn out can lead to violent moves in the market, and we are seeing some of that play out. Yet in the midst of all of this here are some interesting factors (I think we will see these more clearly when at some point, cooler heads prevail and some of these strange situations settle down) that will perhaps take center stage and allow us to focus on actual companies and earnings once again.
Here are a few encouraging facts to consider during this time of uncertainty:
GDP – 2017 fourth quarter GDP growth recently reported to come in at 2.9%. Source This is very good and has been on the rise.
Unemployment – currently at 4.1% - a 17 year low. Source
Labor Participation Rate – increased to 63% - moving up as unemployment rate is low – this is very good news. Source
Corporate Earnings – Just finished a quarter of solid earnings with more than 70% of companies meeting or exceeding their estimates. Source
New Tax Cuts – will begin to see the first signs of the long-term benefits to the corporate and individual tax cuts as companies report earnings this quarter.
Regulations – The current administration is doing a wonderful job cutting unnecessary regulations that just hold companies back and cost money – this has a positive impact on Margins and that is great for stocks.
As a whole, the fundamentals of the economy are firming and looking up. I do anticipate seeing the fruit of this environment on display during earnings season this quarter. The “volatility” we are experiencing has much to do in my opinion with the “uncertainty” in the areas I’ve discussed – and at some point, I trust in the near future we will see clarity begin to shine through in these areas. We are working diligently to manage the portfolio wisely through this period and continue to utilize technical analysis to assist us with this work.
I hope this analysis has increased your understanding of the past few months and given you some comfort through understanding.
Authored by: Michael McCracken CFP®, ChFC The information presented above has been prepared for informational purposes only and the commentary represent the opinions of the author and are subject to change at any time due to market or economic conditions or other factors.