The turning of the calendar to April brought little change to markets which have turned ever turbulent over the last several weeks.
We shared our thoughts in February that recent market volatility after a period of extreme calm is actually normal. That doesn’t change the fact that human nature (with the help of the media) causes us to view volatility as uncomfortable. Since that communication, reasons for pessimism have risen, but reasons for optimism remain.
The following chart shows 10% corrections after all-time highs for the S&P 500 since 1945. You can see that the median correction is 14.8%, meaning that if further downside persists, it is less likely to be as bad as many may be fearing.
Since World War II, the S&P 500 has experienced a correction, on average, about every 18 months while the median time between corrections is just one year. With the last correction occurring in early 2016, we were overdue.
While the average time it takes the S&P 500 to fully recover its losses from a correction is four months according to S&P Capital IQ, at Republic, we have not sat idly by as markets have changed during the first quarter. In many of our strategies, we have raised cash levels and continue to favor investments with return streams which are not dependent on the moves of the overall market.
We’d like to highlight some observations as to why we should be both optimistic and at the same time cautious. Bob Doll, Senior Portfolio Manager at Nuveen Asset Management, shares the following:
Reasons for optimism
1) The economic backdrop remains solid.
2) Monetary policy is not yet restrictive.
3) Earnings have been strong and first quarter results look promising.
4) Trade issues are more about rhetoric than reality.
5) Tech company issues are so far more about public relations than fundamentals.
6) Geopolitical risks have been isolated and contained.
7) The Mueller investigation has yet to uncover a smoking gun.
Reasons to be cautious
1) Economic growth rates could peak as inflation firms.
2) Central banks could tighten faster than expected.
3) Trade rhetoric could lead to a trade war.
4) Tech sector problems could trigger regulatory risks.
5) Increased government scrutiny could stifle M&A activity.
6) Geopolitical tensions always have the potential to escalate.
7) President Trump could trigger a Constitutional crisis by ending the Mueller investigation.
Although Mr. Doll “believes the positives and negatives appear roughly balanced, [he] is encouraged by the fact that macro fundamentals remain solid even as market volatility has increased. Investors have been rattled by a number of risks, but the overall state of the economy is still good. The consumer sector is strong, corporate profits are growing, capital expenditures are increasing, monetary policy remains broadly accommodative and inflation remains contained.”
We remain hypersensitive to the current investment environment, and we will continue to adapt to changing market conditions as appropriate. The upcoming earnings season has the potential to provide a catalyst for market recovery, but time will tell whether strong earnings can turn the tide in a positive direction.
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