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Quarterly Market Overview
April 11, 2016
The first quarter and year began with the worst five day start in market history. A mid-January attempt at a bounce failed and the market made a correction low on February 11th. We released a post to the Latest News section of our website on February 8th to calm fears and outline our expectations going forward. Sometimes the market simply trades on fear rather than fact. In the recent post we indicated we expected the typical V bottom and, though emotionally difficult, you have to be there when it turns. Since then the S&P500 is up over 12%, the best quarterly reversal since the 1930s.
So why the renewed volatility? Falling oil prices have dominated the news. Many wonder if falling oil prices are a sign of global economic weakness and the R word, recession, even made its way back into the commentary. Markets often over shoot the mark for short periods of time whether up or down. We do not see the weakness in oil as demand driven related to a slowing economy worldwide but, rather to oversupply. America’s new oil production capabilities combined with geopolitical reasons to let oil fall rather than stem production led mostly to a supply side build. The market has recovered lately due to some stability in oil around $40 after going as low as about $26 a barrel. The dollar has also weakened some lately which helps the profit outlook for multinational companies.
Recession? There have been 11 recessions since 1945 and all of them were preceded by either a stock market correction or bear market. However, it is worth noting that there have been 32 corrections or bear markets in that time frame, therefore, 21 of them did not lead to a recession. Maybe the odds of a recession have improved a bit but, they remain slight at best and we do not see it on the horizon at this time. The facts remain the same: Though sluggish, the U.S. Economy is still growing lead by strong job growth, rising home values and cheap oil prices. Yes, cheap energy prices actually benefit most economic sectors in time and definitely help the consumer. Lower prices at the pump create more discretionary income and spending. Construction spending is also at the fastest pace in nearly ten years.
Slowing growth in China and other emerging markets, a sluggish Europe, stronger dollar, the potential for rising interest rates, the plunge in oil and commodity prices, and flat corporate top line growth are all reasons to be pessimistic. However, we are not seeing deterioration in the underlying fundamentals and remain bullish intermediate to longer term. The market is still trading at a valuation level not much higher than average historically. Without excesses in valuation and with the abundant skepticism still obvious, we believe the market has much further to go. It was once said that bull markets begin during a time or pessimism, continue higher during a skeptical phase, go still higher when most are optimistic and then finally die when everyone becomes euphoric. I think you would agree that most are far from the optimistic phase and are definitely not euphoric about the market right now.
We continue to expect occasional volatility for the balance of the year, however, net of that, we expect the market to trudge higher and eventually see new highs again. We encourage our clients to focus longer term and not let loss aversion create emotional decisions short term. As we have all learned over time, emotional decisions generally turn out to be wrong in hindsight. Stay tuned to the website or subscribe to Latest News for mid-quarter market commentary.