Stock Market Volatility: Is It More of the Same?

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During these past few months, we are basically seeing more of what we have already seen this year.

  • Volatility is back.
  • Interest rates are at record lows, in the U.S. and across the world.
  • U.S. economic growth is slow, but steady.
  • International economic growth is flat to negative.
  • Commodity prices continue to fall.

Looking forward, it appears that the above conditions will be with us for some time. Stock market volatility has increased in most stock, bond and commodity markets. The uncertainty of the global economic markets appears to have unnerved the investment community. As a result, the greed that has been ruling investor behavior has given way to fear.

In my opinion, China was the tipping point. Until their meltdown a few weeks ago, the investment community was feeling cautiously optimistic, afraid to be left out of any further gains from the stock markets. The U.S. stock market, as measured by the S&P 500, had continued to set record high water marks earlier in the year, closing at 2131 on 5/21/15, after rising over 200% from the 3/9/09 low of 676. International stock markets, while having lagged the U.S. stock market, showed signs of life, responding to the European Central Bank’s version of a Quantitative Easing program initiated in March 2015. While commodity prices had been stagnant, there was a belief that the consumer would spend the extra money, saved from lower energy prices (gasoline, electricity, and natural gas), on goods.

Then the Shanghai stock market started to drop in June 2015, falling more than 30% in a three week period. In August 2015, The Chinese government cut the interest rate, the Peoples Bank of China devalued their currency, the renminbi, and other stern measures were taken in hopes of stemming the market retraction. It didn’t work, further unnerving an already nervous investment community which took the move as confirmation of the softening economic environment in China. If China was slowing down, it was projected that the ripples were going to be felt worldwide and the investment community reacted.

The U.S. stock market, as measured by the S&P 500, retracted to October 2014 levels, noteworthy as this marked when the Federal Reserve officially ended QE3, the latest version of the U.S. quantitative easing which had begun tapering in January 2014. The international equity markets reversed their most recent gains and pulled back in response. Commodity markets moved somewhat lower, with oil prices dropping even further. The only good news, though not dramatic, was that there was economic data supporting the belief that the U.S. consumer was now spending some of the money they saved in energy costs on consumer goods.

So, what does this mean to investors? It means it’s going to be even harder to find the kind of returns that have been achieved over the past six years, since the S&P 500 low on March 9, 2009. The forecast is for a “new neutral”, a term coined by PIMCO, a global investment management firm, in May 2014. The belief is that interest rates will continue to be at relatively low levels, the stock market will see very moderate growth over the near term, and inflation will remain in check. The evidence so far supports this belief. Furthermore, no one can accurately predict when these conditions will change.

So, how do you position your investments in this environment? Typically, investors do not like uncertainty and there is a lot right now. It means the investment community has had to recalibrate their expectations. So reviewing investment portfolios and adjusting them to these market conditions becomes even more critical. How much risk should you take? With the risk-free return equal to around 1.0% and inflation running around 2%, how do you protect your purchasing power? If you are a client of mine, you know that I define the risk you need to take based on what target return you need in order to accomplish your long-term goals.

Reacting to short-term stock market volatility can give you gray hair and an ulcer. These conditions can test your investing discipline, but I strongly recommend that you refer to your long-term plan, assuming that you have one. If you don’t have one, get one. You have a lot of planners and investment advisors to choose from, but my investment recommendations are based on risk parameters that are consistent with a long-term plan. I would be happy to help you update your existing plan or define a new plan for you in order to help reduce your short-term anxiety and increase the probability of your long-term plan success.