The fundamentals really do matter…. until fear and emotions take charge.
- The economy is expanding at a solid pace; recent data have been strong.
- Q4 profits have been very upbeat and the 2018 outlook is very rosy.
- Inflation is low.
- Interest rates have been creeping higher but remain at a historical low level.
It’s a perfect confluence of bullish events and investors have been pricing in perfection, or something darn near perfection. This makes the market vulnerable to a selloff when the narrative doesn’t play out according to the script.
So what happens when inflation expectations begin to creep higher and faster growth spooks Treasuries? Investors begin to price in the new information. Given the sharp run-up in shares over the last year, the reaction can be swift.
It’s a “shoot first, don’t ask questions, and shoot anyone who does” mentality—that in large part, may be driven by technical factors and trading programs. Or, as Josh Brown states in his blog, “Some people are selling because they aren’t people at all, but software programs that have been programmed to sell when others are selling.”
The fundamentals really do matter…but not today.
Good news is good news… until it’s bad news Recall the 1980s and 1990s, when strong economic news lifted rate hike expectations, and, at times, created a stiffer tailwind for equities.
For example, 1994 produced great economic news, and the Fed reacted by sharply lifting interest rates. The bond market was hit hard; yet, the S&P 500 never corrected by 10%.
We haven’t seen that in this expansion, i.e., good economic news has been a positive catalyst for stocks. Though I’m not willing to commit at this time, it’s possible the pendulum is beginning to shift.
Back to the fundamentals While the fundamentals didn’t matter today, they are critical medium-term supports to the market. It’s something we’ve seen since the bull began.
Yesterday’s selloff – 1,175 points is an attention grabber. Still, it’s not in the top 20 largest percentage losses.
We knew volatility would eventually return; timing, however, was virtually impossible.
But, and this is big, we’re not seeing shares selloff because of cracks in the credit markets, weak economic data, global central banks signaling much tighter policy, reduced profit forecasts, etc. It’s not a macroeconomic event.
Selloffs like these wipe the euphoria and froth out of the market and are healthy in the context of a growing economy. It’s like taking nasty medicine. Yuck! But it cures what ails you.
No one knows when we’ll bottom – maybe today, maybe after the S&P 500 officially moves into correction territory.
We’ve seen volatility before. Recall the 11% drop in the S&P 500 in just five days during Aug 2015, or the quick decline following Brexit.
But shares recovered.
Bear markets typically correlate closely with recessions. Short term, the data are not signaling a recession.
