No reason for market panic or even concern

Vladimir Ilyich Lenin once said “There are decades where nothing happens; and there are weeks where decades happen.” I hadn’t thought a communist could ever provide a context for the capitalist stock market but old VL was spot on with this one.

Over the past six months, we had dull and boring markets, with the S&P 500 having closed between 2,040 and 2,130 over that entire time, making it one of the longest and tightest trading ranges in a really long time. Last week, as you may have heard, that changed.

The Dow traveled 1,600 points during Tuesday’s trading session, adding to the 4,900 points it traveled in up and down moves on Monday.(1) I’ve been doing a big business in neck braces this past week…

Rather than do a daily replay of moves, here’s the weekly summary. US crude moved from a 6 ½ year low last Monday to gain just about $7 by the 28th. The NASDAQ had its biggest intra-week reversal on record, ending up about 2.5 percent for the week, recovering from an almost 9 percent plunge earlier in the week to close at 4828. The Dow, which was down over 6.5 percent at its lows for the week, ended up 1.1 percent at 16,643 for its biggest reversal since the last week of October 1987. And the S&P 500 put up a gain of about 1 point on Friday, giving the index a 0.91 percent gain for the week back up to 1988. The index had recovered from an over 5 decline for its biggest intra-week reversal since the week of Sept. 19, 2008. (2)

For context, at its low early last week at around 1,865, the S&P was down 12.5% from its closing peak, making it an “official” correction. Corrections, which are short, sharp, sentiment-driven drops of around 10%, can be uncomfortable and scary, but they’re normal in bull markets.

According to Nick Murray, this 12.5% result was quite a bit less than the average intra-year decline of the S&P500 since 1980, which is north of 14%.

It would take a drop in the S&P500 to 1704 to give us a 20% bear-market decline from the all-time record high of 2130.82 we set on 21 May this year. That might feel like a black hole, but the S&P 500 would still be up 151.0% since the start of the bull market on 9 March 2009 and would still exceed its previous cyclical high set on 9 October 2007 by 8.5%. (I think the pundits forgot to tell you all that…)

What caused the selling?

First, please make a note of this. The more the media is talking about a risk, the smaller it probably is. Their stories and reports feature headlines aimed at grabbing your attention by arousing fear, so that you will be motivated to read the usually much-less-alarming story… assuming you read or listen long enough.

If something’s making headlines, it’s already well known in the market place and people have already been preparing for how to deal with whatever and moving to anticipate its potential downsides, which goes a long way in making whatever less risky.

Next, there was really no “new news”. Just more “concern” about the Fed and China. The thing about the Fed, in my opinion, is simply uncertainty about the effect of rates rising. I believe that when they do it is of little ultimate consequence. I think traders were simply looking for a reason to sell since “we hadn’t had a correction for so long…” Not that the timing of these things means anything.

Further, regarding China, as Brian Wesbury put it so very well, “Investors are allowing China to rent way more space in their brains than it deserves. In fact, some are allowing it to build an entire apartment building up there.”

To help give you some local flavor on China, here’s some thoughts from Dr. Kenneth Kim, who is currently Chief Financial Strategist at EQIS and a former professor of finance at Renmin University in Beijing. The doc said Friday, “Everyone is concerned that the Chinese markets keep falling. This is simply happening by design! And I am surprised that the media is not aware of this. China’s stock markets use a 10% daily price limit on stocks. So, if the Chinese markets are overvalued by 30%, then a correction in China cannot occur within a single day. So, when the Chinese markets are down on consecutive days, it’s economically meaningless. People in China generally don’t rely on stock investing for their retirement. And, Chinese firms do not generally raise capital via stock.”

Why DALBAR studies are, unfortunately, accurate

DALBAR is an independent company which tracks investor fund flows and has been doing so for, at least, 25 years. In doing so, their data show how investors typically way underperform the results of their investments, had they simply just held them. In any case, last week showed why this is the case. Emotions overrode strategy and advice for a number of folks. Here’s the proof.

According to Bank of America Merrill Lynch, stock funds saw $29.5 billion in outflows. During last Tuesday’s flip-flop alone, stock fund investors cashed in $19 billion of global equity funds under management. That was the second-largest daily redemption since at least 2007, according to BAML.
And, according to Credit Suisse, August is the first month since the fourth quarter of 2008 (when the financial crisis was in full swing) in which there has been both bond and equity fund outflows, rather than one or the other.

Unfortunately, this seems to be typical investor behavior. It reminds me of how stocks were up nearly 400% in the 1980s and yet all anyone seems to talk about is the 1987 (one day) crash. The folks at the Columbia Threadneedle blog explain why reacting to short-term moves is not usually a good idea when they noted that, “Historically, some of the worst short-term market fluctuations and losses were followed by periods of substantial market recovery.” They added, “Investors often make the mistake of trying to time the market by simply selling out of it.”

Summary

The last few days have been a market event, not an economic one. The good news is that, after all the drama of the past few days, stocks are a little cheaper than they were before. They could get a lot cheaper still before this is over.

But be sure to not let anyone fool you into thinking that either history or math can identify some magical exact entry point at which you can know you’re buying back into stocks at “the right price.”

I believe two things need to be part of your thinking in these times.

First, fundamentals for our economy haven’t changed. We’re still seeing stable, solid growth and numbers. For instance, the Commerce Department said Friday consumer spending increased 0.3% in July from a month earlier. Personal income, reflecting Americans’ pretax earnings from salaries and investments, increased 0.4%.

Additionally this past week, the second revision of the 2nd quarter GDP result was revised up to 3.7%…up from its initial reading of just 2.3% growth. That was the third-best quarter for GDP since the start of 2012. Not only that, but the durable-goods report was quite strong as orders for durable goods rose 2% last month – and that comes after a 4.1% increase for June. We also learned from the Census Bureau that new-homes sales for July rose 25.8% over last year.

The best ways to deal with market downturns is to – ahead of time – maintain a strategy of asset allocation, diversification and regular, periodic rebalancing. Having the right investment mix for your personal goals helps you to find the right balance between risk and return. Be sure to consider your goals, time horizon, risk tolerance and overall financial situation when making an investment or asset allocation decisions.

In closing, let me again call on Brian Wesbury…”We know it’s tough to focus on the fundamentals of the economy and the long-term outlook when everyone around you dwells on each day’s market action and comes up with all-inclusive macro-economic theories to explain them. But investors need to trust the fundamentals and those are still signaling more growth ahead.”

Happy Labor Day!

Cheers!

Mike

(1)   Wall Street Journal, 26 Aug 2015
(2)   CNBC, 28 Aug 2015

Securities and Investment Advisory Services offered through KMS Financial Services, Inc.
To get an overview of economic conditions, use this link. It’s updated monthly. http://www.russell.com/helping-advisors/EconomyMarkets/EconomicIndicatorsDashboard/EconomicIndicatorsDashboard.aspx

Past performance is not indicative of future returns.

Investing in securities of any type involves certain risks, including potential loss of principal. Investment return and principal value in a bond and/or securities portfolio will fluctuate so that investments, when sold or redeemed, may be worth more, or less, than the original investment.

Investing in sectors may involve a greater degree of risk than investments with broader diversification. International investments are subject to additional risks such as currency fluctuations, political instability and the potential for illiquid markets. Investing in emerging markets can accentuate these risks.