That was 2017 - This is 2018
Our most recent quarter end letter, January 2018, began with, “2017 will be a tough act to follow…The U.S. stock market…and developed global markets…returned over 20% for the year.” That was 2017 -The first quarter of 2018 was quite a different story. After reaching new highs on January 26th, stock prices had dropped 10% by February 8th, the first market correction in three years. Stocks rebounded off the lows but finished negative for the quarter for the first in nine calendar quarters, a reminder that markets can and do go down. The Dow finished the quarter -1.96%, S&P 500 Index -0.76%, MSCI EAFE Foreign Stock Index -1.53% and the Barclay’s Aggregate Bond Index finished the quarter -1.46%.
The economy appears healthy. The Conference Board’s Leading Economic Index recently hit a new high, corporate profits are forecast to rise nearly 20% this year, and weekly first-time claims for unemployment insurance recently reached a level not seen since the late 1960s. So, what’s different from 2017? Rising interest rates are a concern. Investors also fear that President Trump’s tariffs on steel and aluminum and new tariffs on Chinese imports may ignite a trade war which could slow U.S. as well as world economic growth. And, the tech sector, a major driver of this bull market, is facing new challenges.
In our January letter, we reported “the market rally was led by FAANG stocks (Facebook, Amazon, Apple, Netflix, and Google).” Now, Facebook stock is down 16% from the market’s all-time high on January 26 and the company is under pressure over privacy and data sharing concerns. President Trump has tweeted his ongoing displeasure with Amazon. Investors are now concerned that Facebook and Amazon as well as Google could face increased regulation that could lead to lower earnings.
Regarding market volatility, in January we said, “For the first time in its history…the S&P 500 did not have a single month with a negative return and 2017 did not see a single day with a greater than 2% move in the S&P 500, either up or down.” However, after a placid 2017, the VIX, Wall Street’s “fear gauge,” rose 81%, its biggest quarterly rise since the third quarter of 2011. The VIX is now near its historical average, which suggests a return to normal volatility.
What is normal volatility? According to LPL: The average intra-year pullback (peak to trough) for the S&P 500 Index since 1980 has been 13.7%. Half of all years had a correction of at least 10%. Thirteen of the 19 years that experienced an official correction (10% or more) finished higher on the year. The average total return for the S&P 500 during a year with a correction was 7.2%.
Since the end of WWII the stock market has experienced a bear market (drop of 20% or more), an average of once every 5 years. These bear markets have seen stocks decline an average of 30%. Each of these bear markets have been followed by new stock market highs. We believe no action is required if you have a financial plan that includes a diversified portfolio based on your tolerance and capacity for risk.