That Escalated Quickly…
After the relatively quiet summer months, the expectation was that market activity would heat up and we would see increased volatility, as is traditionally the case when we transition from summer into fall. This past week exceeded those expectations as it was one of the most turbulent weeks we have seen in the markets in a while.
Last week began with the largest single day stock market sell-off since May, which was attributed to concerns regarding the liquidity of one of China’s largest property developers. The very leveraged Chinese real estate market remains fragile and there are worries it will spill over into the banking sector if the government does not intervene. However, banks in the U.S. have very little exposure to Chinese real estate so any financial damage overseas is not likely to affect the U.S. markets.
The middle of the week brought the highly anticipated Fed meeting. It came as no surprise that the Fed held interest rates steady, near zero, but it did hint that a rise could come sooner than previously anticipated with updated projections now showing a rate hike prior to the end of 2022. The Fed also signaled it plans on reducing (or “tapering”) the monthly bond purchases later this year and fully wrap up the program by the middle of 2022. These signals provided positive support for the markets since they indicated the Fed views the economy as moving past the pandemic recovery and gaining stable footing on its own.
Despite the fear that hit the markets early in the week, they rebounded quickly and were able to realize gains by the end of the week. The major market indices are still slightly negative for the month and the 7-month string of positive returns looks to be in jeopardy. If the markets can make modest gains this week then the winning streak will remain intact.
It’s the economy (stupid)…
We are not intending to offend anyone, but this statement made famous by James Carville during the 1992 presidential election, which is still quoted frequently, does come to mind. While the stock market does not always sync with the economy, there is little argument that a strong economy lends itself to a strong stock market and vice versa – a weak economy brings the markets down. Despite global events, the domestic economy remains on solid footing and is showing no signs of slowing down. The current economic expansion continues to drive robust corporate profits and earnings growth, which is why we are not overly concerned with events that impact markets on a short-term basis. We maintain our belief that the markets will continue to march higher over the months ahead. We also think inflation is not transitory, but rather a longer-term issue, which the Fed even acknowledged last week. A longer-term threat we do see facing the markets is the possibility of entering a period of stagflation, which is inflation without economic growth. As of now we place a low level of likelihood of that occurring since the economy continues to expand.
The real estate situation in China appears to be contained for now but other risks still abound in the market. The usual suspects from the past few months remain at play – extended stock valuations, spread of the delta variant of Covid, continued inflation, and potential changes in fiscal policy. Our thoughts are that stock valuations will normalize through earnings growth and the concerns over the impact of Covid will continue to diminish. In the short-term, legislative action, especially debate around raising the debt ceiling and the potential passage of massive spending bills, has the potential to cause further market volatility. And we continue to believe sustained inflation, while not always making daily market headlines, remains the largest threat to portfolios over longer times periods for the foreseeable future.
This past week has displayed the benefits of being patient and adhering to a long-term investment strategy during times of volatility. This is not only true on a daily and weekly basis, but also on a monthly and quarterly basis. Successful investing involves time and patience. Do not hesitate to contact us if you would like to review your portfolio or investment strategy.
Have a wonderful week!
Nathan Zeller, CFA, CFP®
Chief Investment Strategist
Please contact us if you would like to review your individual financial plan or learn how the TaxSmart™ Retirement Program can help you.
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