Market volatility surges: What you need to know
On the heels of the strongest January experienced by U.S. stock market participants since 1997, the first days of February have proven a sharp reminder of what volatility in all its forms truly feels like. Declines last week, which began with some mixed earnings reports, were compounded and accelerated by heightened fears of inflationary forces, seemingly manifested in the form of +2.9% wage growth on the back of solid gains in non-farm payrolls. With inflation comes further tightening, and the U.S. bond market adjusted appropriately, while equity market participants threw off the complacency of 2017 and took profits anywhere they could find them — which as it turns out, was pretty much across the board.
Volatility, as measured by the VIX index, jumped from its historically low levels on equity market selling. This move in the VIX was exacerbated by the forced selling of products tied to the index which bet on the level of the VIX remaining low, and this additional spike in volatility helped to fuel more traditional equity selling. The ripple effects of the U.S. stock markets were felt around the world, too, as European, Japanese, and emerging markets equities fell as well, albeit at a more muted pace than those here in the United States.
In the interim, U.S. bond yields fluctuated, as some investors moved cash into Treasuries in a flight for safety. This trend proved short-lived, however, as yields returned quickly back to their recent range. Credit spreads widened only modestly, a clear indication that the credit markets do not believe the equity market story of an economy-fueled correction. In fact, the positive undercurrent remains the overall strength of the U.S. economy. Higher wages are positive for consumption, as are the lower individual tax rates now in effect. Corporate tax rates are lower, and this has yet to be transmitted either to shareholders or to growth-oriented capital expenditures.
Therefore, our overall view has not changed. (See the most recent issue of our Economic and Market Perspective for our 2018 outlook). More than anything else, the trading over the last few days has acted as a reset for investors. As of the close on February 7, the S&P 500 lost -5% over the past week, and is now up just 0.4% year to date, while the 10-year Treasury stands at 2.86% — after falling to 2.65% last week. Expectations are changing, and valuations need to readjust — a normal part of any bull market cycle, albeit one we didn’t experience last year. While we acknowledge that sharp declines and increase in volatility have created uneasiness, for investors, the reality is that much of the reaction over the last several days has been a response to stronger than expected economic data. Our concerns going into this year reflected this possibility — that stronger economic data would create an expectation of an acceleration of monetary policy tightening, and this combination of higher interest rates, inflation, and higher wages to be paid to workers may create a ceiling on stock gains for the year.
With that said, these periods offer an opportunity for introspection, and can be a catalyst for a review of your goals and desired outcomes. With your advisor, we encourage you to revisit your overall asset allocation to ensure that it is something with which you are still comfortable. If you’ve purchased equities recently, there could be an opportunity to harvest losses — an important tax mitigation technique, even in this relatively lower tax rate environment. There is also an opportunity here to add cash into the market into areas to which you are underexposed. In short, while we understand that the gyrations of the markets can be difficult to handle at times, maintaining a longer-term focus on your wealth goals will not only help to insulate you emotionally during these periods, but will also aid in maintaining discipline in your overall approach to preserving and growing your wealth.
Shannon L. Saccocia, CFA, CIMA®
Chief Investment Strategist
Shannon Saccocia works closely with the CIO to lead the Asset Allocation Group, responsible for oversight of both strategic and tactical asset allocation for the firm. She leads the external search, selection, and due diligence team, focused on identifying investment opportunities across all asset classes for use in portfolios alongside the firm’s proprietary capabilities. Ms. Saccocia also works closely with both the business development team and the client advisor team to help construct customized wealth management solutions to meet clients’ specific needs. In addition to her work in the Asset Allocation Group, she is a member of the firm’s Investment Policy Committee, and writes the firm’s quarterly newsletter. Shannon also supervises the Portfolio Advisory, Manager Due Diligence, and Performance teams at Boston Private. View More>
The opinions expressed above are given in good faith and prepared by Boston Private Wealth LLC, may be subject to change, and are as of the date issued. This communication discusses general market activity, industry or sector trends, or other broad-based economic, market or political conditions and should not be construed as research or investment advice and does not represent a complete analysis of every material fact with respect to the economy, financial markets, interest rates, and any industry mentioned in the publication. Individual investors should discuss their particular investment circumstances with their dedicated Client Advisor. Investment products such as stocks, bonds, and mutual funds may lose value and are not insured or guaranteed by Boston Private Bank & Trust Company or any of its affiliates or by the Federal Deposit Insurance Corporation and any other government agency. Publication of any third-party logo or data does not imply any endorsement of their products or services. Past performance is not a guarantee of future results.