Key Points

  • Kneejerk, emotionally- (and algorithm-) driven decisions appear to be playing a part in some violent market moves over the past month. Investors who keep the endless flow of news in the proper perspective stand a better chance of being successful.

  • Trade risks have risen but for now an actual trade war is not underway; while the U.S. economy remains healthy, inflation isn’t forcing the Fed’s hand, and what is likely to be a strong earnings season is getting under way.

  • Military conflict concerns have also risen, but history suggests that unless they become protracted conflicts with economic implications, they have typically had short-lasting impact on markets.

Get a grip!

We often say that panic is not an investing strategy, but the media often takes the opposite view, as they breathlessly rush to report “breaking news” and add “markets in turmoil” specials after particularly volatile days. It must work to gain viewers or they wouldn’t do it but we suggest that investors would be better served taking a step back, keeping emotions in check and maintaining discipline. Within one day recently, we saw a 700 point swing in the Dow Jones Industrial Average from a big loss to a solid gain. The media has a tendency to want to find the “one” force each day for every move or swing in stocks, as if the stock market were otherwise an inanimate object, waiting for specific news to swing it in one direction or another. The market has always been more complicated than that. Fundamentally, our view expressed in our 2018 outlook, which was published in December, was that market volatility would escalate this year—consistent with late-cycle economic and market tendencies.

Aside from the tendency for volatility to pick up when the economy moves into its later stages of the cycle given implications for inflation and monetary policy, there are shorter-term forces at work as well. Trade—a risk we also cited in our 2018 outlook—has moved to forefront, much as President Trump said it would during his Presidential campaign. But despite the dire headlines of a potential trade war, at this point it seems more like negotiations aimed at getting better and fairer trade deals in place. For all the bluster surrounding the possibility of walking away from the North American Free Trade Agreement (NAFTA), The Wall Street Journal (April 4, 2018) recently reported that President Trump is pushing for a deal announcement in the near future, with many of the sticking points having been agreed to. That doesn’t mean a deal is assured, but is more reassuring than some of the headlines would have indicated only a couple of months ago. Of course China has been the hot headline lately, with the United States’ opening salvo being proposed tariffs on roughly $50 billion worth of Chinese imports. China came back immediately with proposed tariffs on roughly $50 billion of U.S. imports, followed by the President announcing he’s looking into the possibility of tariffs on an additional $100 billion of Chinese goods (this most recent volley was surprising, not least due to its lack of details). But there’s an important word in there that was often overlooked—proposed. These tariffs on both sides won’t actually go into effect for at least several weeks—with both sides making sure to note that they continue to negotiate with the hopes of coming to a deal. Although we don’t want to downplay the consequences of a possible trade war, total exports to China represent only 0.7% of U.S. gross domestic product (GDP) (Cornerstone Macro Research).

One effect of this recent volatility has been to further dent investor sentiment—a contrarian indicator at extremes. Overly-optimistic sentiment had been a factor behind our more cautious outlook for 2018, so an easing of the froth which had accompanied the January all-time highs for the major equity indexes is welcome. According to the Ned Davis Research Crowd Sentiment Poll, conditions have moved from the extreme optimism zone, to the cusp of the extreme pessimism zone. The recent selling has also helped to partly alleviate expensive valuations as the forward price/earnings ratio (P/E) for the S&P 500, according to Thomson Reuters, has moved from more than 18 to roughly 16 today—not cheap historically but much closer to median levels historically.