If you bumped into me this week, you may have noticed a bounce in my step, a looser look. That's because my pride and joy, Abby, graduated from Pitt on Sunday and an important financial obligation (to us) is now off our shoulders.
It seems like just yesterday I was at Sears trying to coax a nine-month old baby to look at the camera for a portrait. Then, in a blink, you find your eyes getting a little runny as you watch that baby girl walk across the stage earning a degree from an elite university. If you have a great kid, parenthood goes way too fast.
We had an amazing weekend with the new graduate and are excited for her future. Abby plans to stay and work in Pittsburgh at least through the end of her apartment lease next summer and then plot her next move. Mom and I have no doubt she'll be successful, now it's just a matter of what form and shape it will take.
Anyone else notice the stock market having a difficult time these days? Geez.
As an investment advisor, I frame our work as evaluating the investment climate to manage our client investment strategies. Well, when it's pouring outside you better reach for an umbrella. In other words, sometimes you must heed the weather too; now is one of those times.
After reaching an all-time record high at the end of September, the S&P500 stock market index has dropped 16% through December 20th. At that depth, the market has slipped past a traditional sell-off into a deep correction. Next stop is a bear market, which is defined as a 20% price decline.
Trading volumes have been steadily increasing, which signals that investor sentiment is turning even more dour, adding to the negative momentum. Toss in year-end tax-loss harvesting plus momentum program trading and you have the ingredients for the ugliest stock market cycle since early 2009.
And there's been no solace in asset allocation in 2018, as most major asset classes are having a year to forget, especially international stocks and high-yield debt as investors de-risk.
What's the deal behind this unexpected stock market rout? Our position has been that 2018 was going to be the last hurrah for this epic bull market, buoyed by the best economic conditions in twenty years. 2019 was going to be the transitional period as the US economy facing slowing economic growth, possibly even a recession in the second half of 2020. We almost made it!
Historically, the notorious bull market killer has been the Fed Reserve. If this market tumult proves to be the end of the bull market – and it's too early to make that call – the Fed will again be a prime suspect.
However, the Feds hands have been rather clean. It is trying so hard to smoothly unwind its easy money policy since 2008, but the effort is not being well-received at the moment. Their transparent approach to raising short term interest rates, methodical quantitative tightening and mild rhetoric is being met with investor disdain.
It is interesting the Fed announced this week the current Fed Funds Rate has now risen to the lower range end of what is considers the "natural" short-term interest rate, meaning the equilibrium rate set by the market without Fed intervention. Moreover, it signaled only two rate bumps in 2019, one less than expected.
With an economy that is still clicking on almost all cylinders, you'd have thought the Fed's somewhat dovish comments this week would have been welcome news to investors – nope.
Aside from tighter monetary policy, investors are really grouchy about the serious US-China trade war, which is already damaging global economic growth.
Though recently tabled (until March), on January 1st, 2019 the US was poised to add a 25% tariff on almost all Chinese imports in the latest trade war salvo. Predictably, the stock market reacted badly to the news. This is an example of an unusual risk factor that falls outside of the traditional investment playbook.
Recently, however, China is sending positive signals that it may be interested in a truce. It announced it will lower stiff tariffs on US automobiles and will start re-purchasing US soybeans again. We'll see.
Add to the risk factors mentioned above the anxiety over a potential government shutdown, the Brexit debacle and overvalued tech stocks rolling over and the product is a nasty market correction, one flirting with bear market status – despite a booming US economy.
When you step back and consider how well the US economy is humming, that corporate earnings remain excellent, employment is strong, wages are growing and credit is still easy to obtain, the timing of this rush to the exits by stock investors seems unusual.
And the yield curve, the best predictor of future recessions twelve-to-eighteen months out on the horizon, remains flat but not inverted and is not yet signaling a 2020 recession. Whew.
I read the term "circle of dominoes" describing the aligned column of risk factors causing the ramp up in market anxiety and find it an apt description of investor mood this Yuletide season.
The domino risk circle is poised to foster a "non-recession" bear market; we're right on the doorstep. In the past, the average market downturn during these market events (per WSJ) has been 23%, which is often followed by a "V" shaped market rally.
Conversely, a recession-linked bear market is a whole other story. Market declines during economic recessions can be breathlessly steep, followed by a long recovery. To wit, in 2008 the S&P500 decline exceeded 50% from which it took years to recover.
In sum, this storm cycle seems like a non-recession bear market, which means the best course is to stay fully invested and hope for good corporate earnings in January, a decent Brexit outcome and a trade deal to perhaps trigger a market melt-up in early 2019.
Until next time, have a great holiday season and see you in 2019! Tim
www.harvrock.com
