Monthly Markets Memo - September 2017
by Dan Zalipski, CFA & Scott Rosenquist, CFA
U.S. Equity indices resumed their march higher, erasing the prior month’s brief decline. International equities joined the party but were outpaced by their U.S. counterparts. Emerging Markets continue to impress with strong returns. Various risks spilled over into the fixed income sector causing a short-lived flight to safety. Investors pushed yields lower as they reacted to headline risk involving North Korea on one side of the globe and a series of hurricanes on the other. The move in yields quickly reversed as tensions eased for a while.
The U.S. economy is relatively strong, but as valuations within U.S. equities continue to move higher, market participants are questioning if these prices are sustainable. Historically low volatility, high valuations, and a Fed that is increasing rates while reducing stimulus has investors nervous about what’s to come.
Corrections, Recessions, and Bears
There is a lot of talk out in the market about when the next correction will hit. A market correction is a decline of 10% or more from the most recent peak. While it can be hard to stomach a 10% drop, it’s worth acknowledging just how common and frequent these corrections can be. Numerous studies and reports conclude that the stock market experiences a correction about once a year. The last correction in the S&P 500 hit back in the first quarter of 2016, or about 20 months ago. Based on time-frame alone, the growing chorus warning of a possible correction is all but a signal for what is expected. There are always exceptions however, the bull market of the 90’s went almost 5 years without a single correction.
Knowing that corrections occur with relative frequency, investors should find some comfort in that historically, the average correction only lasts between 3 and 4 months (peak to trough). Being somewhat short in nature means that long-term investors have less to be concerned with. In fact, long-term investors should recognize corrections as a potential buying opportunity. After all, if you intend on owning funds and stocks for years to come, a correction is nothing more than a sale to be taken advantage of.
It’s also important to understand the difference between a correction, and a bear market. A bear market is more severe than a correction, with a downward movement of 20% or more from peak to trough. In addition to a deeper dive in price, the length of the average bear market is considerably longer than a correction, typically lasting about 15 months. Unlike corrections which can happen for almost any reason, or no reason at all, bear markets tend to be a product of the natural business cycle. With rare exception, bear markets are almost always accompanied by a recession, which compounds the pain felt by investors watching their investments decline in value. This can be exceptionally troubling to those transitioning into retirement or needing to draw from their invested assets.
A recession is defined as two consecutive quarters of negative economic growth measured by gross domestic product (GDP). Most of us certainly remember the 2007-2009 recession, when GDP turned negative and unemployment touched 10%. The Federal Reserve slashed interest rates to help boost the economy and is slowly starting to normalize their interest rate policy. This is one of the main tools the Fed uses to promote economic growth and price stability. When another recession comes, the Fed will want rates higher so they have more room to lower them to help stabilize the economy. Recessions are part of the business cycle and will happen again at some point.
Is another recession on the way? The current read on the index of leading economic indicators (LEI) does not appear to support an imminent, meaningful downturn. This index includes 10 components used to measure the economy and can help signal changes in the business cycle. It covers employment data, manufacturing, building permits, and stock prices. While there is no “magic” indicator, the LEI is noted to be one of the more accurate ones to gauge economic activity. The most recent release (9/21) of LEI data showed an increase for the month of August and suggests continued economic growth in the near term.
There is always some chance of recession in any year. But the evidence suggests that expansions don't die of old age.
- Janet Yellen, Chair of the Board of Governors of the Federal Reserve System
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendation for any individual. Although general strategies and / or opinions are revealed, this post is not intended to nor does it represent or reflect transactions or activity specific to any one account. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. All data and information is gathered from sources believed to be reliable and is not warranted to be correct, complete or accurate. Investments carry risk of loss including loss of principal. Past performance is never a guarantee of future results.