After 4 straight weeks of gains, the markets have slipped. As of Friday, the S&P 500 lost 3.85%, the Dow dropped 4.12%, and the NASDAQ decreased by 3.53%. International stocks in the MSCI EAFE also took a 2.78% hit. Domestically, the losses spanned sectors and asset classes. For the S&P 500, all 11 of the index’s industries lost ground last week. This decline came after the S&P 500 had its best January performance in over 20 years.
So, what happened?
Looking at the markets’ sizable losses, you might expect that discouraging economic data came out last week—or some geopolitical drama spooked investors. On the contrary, the drops came in response to news that seems positive on the surface: Job and wage growth are picking up.
Reviewing the Jobs Report
On Friday, the Bureau of Labor Statistics reported that we added 200,000 new jobs in January and beat expectations. Average hourly wages also increased, bringing 2.9% growth in the past 12 months—the largest rise since 2008–2009.
Analyzing the Reaction
When labor data came out, bond yields jumped and 10-year Treasury yields hit their highest level in 4 years. Stocks sank in reaction to these interest rate gains. Concerns about inflation are fueling this reaction. As wages grow, companies may increase their prices to support their rising labor costs—contributing to an inflationary cycle. With inflation can come rising interest rates. As a result of this news, some investors became concerned that the Federal Reserve may increase interest rates this year more than initially expected.
Putting the Performance in Perspective
After the unusually calm market environment we experienced in 2017, last week’s declines may feel unsettling. However, price fluctuations are normal and the economy continues to be strong. Of course, every economic environment has risks, and no market can go up forever.
Looking forward, what are some important levels to pay attention to? First, look for the 2700 level for support on the S&P500. This is where the 50-day moving average is. 2700 is also a nice round number. Below 2700 watch for 2632 (the 100 say moving average) and 2585 (the 200 day moving average). These moving averages typically offer support for prices and are also watched like hawks by the black box algorithmic traders. The 2585 level is probably the most important one to watch. This is official correction territory for the S&P500. It also seems to be the area traders may be keying in on after the big January move higher. Just a bit of trivia, the last time the S&P500 touched its 200 day moving average was in November of 2016.
Let’s be clear. The bull market was not ‘killed’ by one week of activity. In fact, economic data continues to look strong. However, as has been discussed in this update previously, the markets have been over-bought and the probability for a pull-back was growing. It appears we’re finally seeing some mean reversion as volatility returns. We are aware of the risks that increasing inflation and interest rates may bring, and we are here to help you navigate what the future holds.
Some have asked, "Should we sell here and wait?" My reply is normally "What exactly would we be waiting for?" We will never get an "all clear" sign nor a "this is the top or bottom of the market" alert. Sure, there are times when the economic landscape changes and adjustments can be made. However, as far as most economists can tell our economy is firing on all cylinders at the moment and by most leading indicators appears as if it will continue to do so for at least the first half of the year.
Now, over the last 20 years I have learned the market can and will do what it wants when it wants and it doesn't require any rationality or rhyme or reason to do it. As of this writing the S&P500 is down another 1.5% today. In modern times with all the computerized algorithmic trading that takes place, machines talking to machines, market moves tend to be overblown in both directions. Typically, when this type of move happens I ask myself "What has fundamentally changed?" If I cannot come up with a material answer I have found it is typically best to maintain course and speed.
There is a lot of noise when it comes to investing. The news media just loves to throw gas on a fire. Try and filter out the noise and maintain your long term perspective. Make no mistake, the market goes up and will most definitely go down, sometimes even for extended periods. To date, betting on the apocalypse has been a suckers bet. I suppose someday it might pay off, but then again if it is the apocalypse will it matter?
Even in 2008, and this is no 2008, within 6 months the economy was back on course. Using 2008 as an example, if one invested at the top of the market in 2007 the S&P500 was sitting at 1550. Fast forward 10 years and the S&P500 is at 2730. If you owned the S&P500 during that time and reinvested your dividends you'd have still doubled your money through the worst downturn since the Great Depression. The fundamentals of the U.S. economy haven't changed in the past week. The markets were overbought and now they'll probably become oversold before finding their path forward again.
If one's investment portfolio is allocated properly to his or her appropriate appetite for risk they will be able to weather just about any market storm. As always, we are here to serve you and welcome any questions you may have.
Quote of the week:
"Fortune sides with him who dares."