Thoughts on the Market

October 11, 2018

Since the S&P 500 Index peaked on September 21 at $2940, it has fallen 7.2% to today’s closing price of $2728. The first few days of this decline were very gradual, followed by sharp moves lower both yesterday (-3.3%) and today (-2.1%). Yesterday’s move was the biggest one-day drop since February, when the market actually had two days in the same week that were worse at 3.8% and 4.1%. In fact, the recent decline has felt very similar to February in that there has been no fundamental news that should have caused a correction of this magnitude.

Certainly, there are some macroeconomic overhangs right now that have cast an air of uncertainty over the markets, chief among them being the relationship between the United States and China, Italy having renewed debt issues, and the Fed raising interest rates at a fast pace. However, we have not seen significant incremental news on any of those fronts that justifies the declines of the past two days.

Instead, the more likely rationale is technical positioning. Just as in January, we had a period of high market returns and abnormally low volatility, the combination of which had led to investors being too bullish and over-invested in the stock market. This complacent positioning, which was most acute in the Technology sector, inevitably leads to corrections like we saw in February and the past two days.

Key for the market moving forward will be the commentary coming from company management this Q3 earnings season, which kicks off tomorrow with Citigroup, JPMorgan, PNC and Wells Fargo. If earnings and guidance remain strong, as they have the past several quarters, this will provide solid support and renewed positive momentum for the US equity market off its current lower level. If instead, management teams say that these macroeconomic overhangs are starting to have a real negative impact on their business, we would expect some further downside until these issues are resolved.

As long-term, unemotional, fundamental investors, we view the recent decline as a normal part of investing, and it does not concern us or cause us to change our strategy. At GGS, we do not believe in tactical market timing. We recognize that there is no simple formula to know the future direction of the market, and by recognizing what we don’t know, we can eliminate personal biases from our investing process. We believe that sticking to a properly selected target risk level in both good times and bad is the best recipe for long-term investment success. The sell-off of the past two days actually gives you a good opportunity for a gut check of your emotional risk tolerance. At some point in the future, we believe it is inevitable that the stock market will have a major correction well beyond what has been experienced the past two days. If you do not think you will be able to stay the course during such an event, then we believe your target risk level should be revisited. As always, feel free to contact us with any questions you may have about your unique situation, including the risk level of your portfolio.

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