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A Look at the Current State of the Market

This has certainly been a difficult few weeks in equity markets to say the least. With levels pushing -10% correction territory yet again, investors may be struggling to make sense of things and are looking for answers. In some market declines, a single culprit is easy to identify; in others, it’s less obvious. This might be one of the latter.

There are several areas that have worried investors as of late, and we wanted to outline a few talking points to put things into perspective:

  • For one thing, pullbacks in the 10% range aren’t all that uncommon. In fact, we should experience about one per year or so. But, since we went a few years without one (until last summer), we’ve become less used to them. Volatility events tend to cluster, so seeing a few back-to-back negative events after such low volatility isn’t surprising.
  • The Chinese economy is undergoing a major transition, from a basic manufacturing- and export-led period with surging growth rates to a second phase of more tempered growth as the economy matures.This means a larger focus on internal consumers, fewer exports and lower rates of growth. Note that while growth isn’t the 10% per year it used to be, 6+% growth is still powerful and a main engine for the world economy—as are still-high growth rates in several emerging market nations.
  • Chinese policymakers have also struggled, not only with tools to help engineer an economic ‘soft landing’ (they have plenty of resources/cash to accomplish this) but also in shifting a relatively insulated communist nation into a more modern one, with functional and credible financial markets. Just as it took the developed world some time for this to occur, with better transparency and regulation to liquidity, these relatively new stock markets in China have been experiencing growing pains. This means volatility, which can translate into jitteriness elsewhere. While local ‘A’ shares used by domestic Chinese investors are the focal point, many emerging market managers invest in Chinese firms through the much more developed and reliable Hong Kong-listed ‘H’ shares or through ADRs listed in New York—this provides some insulation but they have also felt the pinch.
  • Crude oil prices have continued to unsettle commodity, stock and corporate bond markets. Traders and watchers often focus on round numbers in that space, so $30 is the most recent point of resistance, which prices just dipped below—West Texas crude prices have fallen nearly -20% year-to-date. In contrast to economically weaker periods where demand falling off is the culprit in lower prices, the current situation appears to be overwhelmingly supply-based. We have a lot of available oil inventories. With sanctions on Iran due to be lifted, there is more to come (maybe not as much as the Iranians claim), which has added to fears. This has pressured American oil companies, but also government balance sheets from Russia to Saudi Arabia, who rely heavily on petroleum revenue. At some point, there will be a balanced market clearing level, and it could happen suddenly…the world didn’t just come up with twice the amount of oil available than it had last year, making the price decline in those terms seem somewhat excessive.
    • It’s very important to think about the benefits of cheap oil, in terms of industrial input costs as well as for consumers—gasoline prices are an important short-term sentiment indicator for the average household. Would we be happier with the $105 oil price paid as recently as June 2014? Probably not.
  • The U.S. economy is growing but not at an extraordinarily fast pace. Manufacturing indexes have fallen recently, bordering on contraction, but this has occurred before in mid-cycle ‘soft patches’. The less-reported news is that manufacturing has become a smaller and smaller piece of both growth and employment (surprisingly small, in some cases) in the modern U.S. economy—which is dominated by services, which have held up much better. While recessions are never ruled out as a possibility at any time, key signals continue to show a low probability. Corporate earnings season is also getting into gear, and results here may well add to volatility. We’ll likely discuss these elements more fully in coming reviews.

As we all know intuitively, it’s important to stay disciplined at times like this. Volatility in markets means the penalty for investors making rash decisions can be severe—while one might be lucky enough to get the timing ‘right’ on an initial short-term decision, the second decision (often, when to get back in) often doesn’t work out as well. When data and sentiment changes on a day to day basis, chances of being ahead of the curve are virtually nil, which lowers odds of short-term timing efforts working even further. Most understand this in theory, but behavioral finance gets the best of many investors in challenging times like this—the urge to do ‘something’ can be difficult to resist. Is that ‘something’ actually productive or enhancing to a portfolio? Often not. This is one of many reasons why disciplined and systematic approaches such as valuation-based investing (but also others, like momentum, in some cases) can be successful. These remove the ‘what could be’ and instead focus on ‘what is’.

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Ryan Keapproth

Ryan Keapproth

Retirement Planner

Ryan is dedicated to serving clients to achieve their retirement goals. Ryan’s holistic approach centers on wealth management strategies with a focus on income planning throughout retirement. As a Financial Advisor, Ryan is an Investment Adviser Representative (IAR), life and health insurance licensed and a Certified Tax Preparer. Ryan is a graduate of the University of Minnesota, with an Accounting and Finance major.

Ryan is a lifelong Minnesotan originally from Woodbury and currently residing in Bloomington with his wife, Riamae, and their rescue Terrier Beagle mix, Douglas. He and his family are avid travelers in their free time. Ryan enjoys playing golf and poker, and describes himself as a major foodie enjoying new restaurants around the cities whenever possible. He is a sports fan especially when the Vikings and Timberwolves are playing.