Markets Don’t Like Unknowns!
Subscriber Benefit
As a subscriber you can listen to articles at work, in the car, or while you work out. Subscribe NowHave you taken a look at your investment portfolio? If not – don’t! Markets do not like unknowns – and because of the Coronavirus crisis, we are in the middle of a big unknown! As a result, over the past several weeks we have seen both significant market drops as well as large rebounds. Advice: Stay focused and keep perspective.
During times of uncertainty, it is important to not get lost in the daily headlines, but rather concentrate on keeping everything in perspective. Let’s take a step back and remind ourselves of where we were not so long ago and look for where we might be headed in the next few weeks.
Where was the market a few weeks ago?
Stocks were probably overvalued. With a strong run in 2019 combined with low earnings growth by companies, valuations went higher. If stocks were overvalued, it wasn’t by a significant degree and it wasn’t unusual. Stocks have had higher valuations for many years but earnings have been growing to help justify the higher prices. That being said, it is entirely possible that we could have experienced some sort of correction without the Coronavirus. Remember, while corrections are difficult to predict they do happen more often than we realize – including two times in 2018.
The U.S. economy was on solid ground leading into this situation. Lots of new jobs, good wage growth, low inflation. Globally, regions were improving and trade wars had eased considerably. Today, our banks are healthy and the housing market is in good shape.
The consumer, which has been the strength of our economic expansion, has relatively low debt, high credit ratings, and will benefit from lower mortgage rates as well as lower energy prices.
We do not recall who had the following thought, but it seems to be rather relevant. For the Coronavirus, the healthier the person that contracts it, the better and quicker their recovery. The same holds true for the economy when faced with a shock to its system. In the case of the U.S., it should be an advantage that our economy is healthy going into this.
Where can we look for insight?
China’s market is a good example. Initially, Chinese stocks took a significant hit when the virus was spreading across the country. However, once data indicated that the rate of infections was slowing significantly, the Chinese market rebounded. At one point recently, the market was back to its pre-virus highs and has since performed better than most other stock markets.
Historically, other stock market declines caused by events, including viruses, terrorism, and wars have seen the markets respond positively and sometimes very quickly once many of the unknowns have been answered, or simply digested. Will that be next week, next month, next quarter? That’s also an unknown.
What is next for us?
There are three responses to keep an eye on:
- Monetary Response – The Federal Reserve will do all they can to keep financial markets as efficient and effective as possible. They have already cut rates and may likely do so again. The Fed also announced additional liquidity measures, potentially leading to our next cycle of Quantitative Easing.
- Fiscal Response – What will the government do to help alleviate the impact of the fallout from the virus? Legislation, with bipartisan support, for workers, small businesses, and certain industries is in the pipeline. If passed, this should ease the negative impact on wages and profits due to the change in consumer behavior that is necessary to contain the virus.
- Civilian response – What will we do? Can we self-contain and limit our risks of contracting or infecting others? We are seeing closures, announcements of remote working, as well as event postponements and cancellations. Travel restrictions are not fun, but are probably necessary to mitigate the effects of the pandemic.
If all three responses are meaningful, it will go a long way toward helping us navigate the present and resolve some of the unknowns.
Summary
Stock investing is a long-term strategy that requires a long-term focus. Warren Buffett, an icon in the investing world, recently noted that investors should always remember that they are buying actual companies when they invest in stocks. He had this to say about the current situation: “The real question is: Has the 10-year or 20-year outlook for these businesses changed in the last 24 hours or 48 hours?”
While the shorter-term outlook has certainly changed for many, if not most, companies, significant changes to their longer-term fortunes, while still unknown, seems unlikely at this time.
Jonathan Koop, CFA, is a Portfolio Manager with Bedel Financial Consulting Inc., a wealth management firm located in Indianapolis. For more information, visit their website or email Jonathan.