In the monthly communication we released on Tuesday, we discussed that U.S. large cap market returns are concentrated within a handful of technology stocks and suggested that this was cause for concern. The market confirmed this sentiment two days later, when the S&P 500 corrected 3.5%. Apple dropped 8%. Microsoft, Amazon and Google each fell more than 4%. There was no major catalyst for the correction, though there were some interesting aspects to the previous day’s trading.
On Wednesday the 2nd, the S&P 500 jumped 1.6%, also with no major catalyst. It is noteworthy that the less economically sensitive utility sector was up 3.1%, while the more economically sensitive industrials, consumer discretionary, financials and tech sectors all underperformed. US Treasury bonds, the ultimate risk‐off asset, increased in price sending yields lower. The volatility index, or VIX, also spiked, indicating that investors are expecting uncertain and volatile conditions.
It is not common to see the S&P 500 move up 1.6% on the same day that volatility expectations move higher and safe US Treasuries rally. Collectively, that is like the market stepping on the gas and the brake at the same time. Thursday, investors decided to put their foot only on the brake. Pending further data, we do not believe that Thursday’s decline portends the start of a larger, protracted correction. However, it is certainly possible that we will experience increased volatility in the coming weeks. It would be a healthy sign if this volatility lead investors to rotate away from the technology sector and into other, less expensive areas of the market.
The European Central Bank announced additional stimulus measures this morning, leading to a rally in European equity markets. As mentioned in a recent communication, we increased non‐US equity exposure for valuation and risk management reasons some time ago. Although Europe and Asia followed the S&P 500 lower yesterday, we are witnessing divergence in performance today.
There are two areas that we believe need resolution before the market can resume its advance. The first is some clarity around the election. To the market in aggregate, who wins is not important. However, the areas of the market that are likely to outperform with one party or the other in office will be different. As of today, the betting odds are evenly split between the two candidates. Until the outcome is known, or until one candidate takes a commanding lead in the polls, capital markets may move sideways through a period of volatility and consolidation.
We feel like a broken record saying this, but the other area that needs to be addressed is additional fiscal stimulus. According to Federal Reserve Bank of Chicago President, Charles Evans, the course of the economic recovery in the U.S. will “critically depend on receiving substantial additional support from fiscal policy.” At the moment, it does not appear that additional fiscal stimulus bills will be forthcoming, but this can change at any time.
Please transition into the holiday weekend at peace with the knowledge that you are not traders. Nor are we. Traders attempt to time the market and take advantage of days like yesterday and today. Most lose their shirts. Some manage to make a living. Nobody gets is right all the time.
We are investors. We are in this for the long haul, which requires patience during volatile periods. Staying the course is precisely how we made it through the carnage of the March correction and came out the other side smelling like roses. There will be volatility along the way, certainly. Your greatest defense is a clear understanding of your risk profile, tolerance for volatility and return expectations. If you are reconsidering your risk profile, then please let us know. Otherwise, try to avoid too much focus on short term market movements. Worrying about the day‐to‐day is our job.
Personal Investment Management, Inc.