Markets were in the news again, with media headlines implying panic selling, akin to what we saw in early February when the market experienced its first correction in years. Headlines especially focus on the drop measured in the number of ‘Dow points’ (700, for which the 24,000 starting level represents nearly a double from the last peak in 2007, a distinction which is not usually mentioned). In terms of volatility, a -2.5% decline ranks in the top 5th percentile of days since the 1950’s—with the absolute price change over the decades since averaging +/- 0.65% on a daily basis.
Whenever markets suffer down days, pundits emerge declaring the end of the bull market, or start of terrible things to come. Short spurts of volatility have generally been driven by sentiment, however, rather than fundamentals. The short-term sentiment catalyst has been the announcement of tariffs targeting several nations, but mainly China. A few weeks ago, these began with steel, aluminum, solar panels and washing machines. Now, a larger effort toward a broader array of Chinese tariffs is in the works, with a focus on intellectual property theft, although specific items have yet to be announced. While the legislation is tough-sounding, it is difficult to assess how much impact it will have, if it is merely a negotiation tactic and/or and how much it could be watered down in coming weeks via exceptions (as with prior tariff announcements). The key market worry is that such confrontational talk will prompt China and other nations to retaliate with their own tariffs, creating an expensive logjam in global trade and ultimately slowing the synchronized global economic recovery. There will no doubt be more comments from Washington to come, with the wording and tone carefully scrutinized and sentiment likely reacting accordingly.
It is also probable that the fallout over Facebook’s user privacy lapse and subsequent delayed communication on the matter have weighed on sentiment, as they have the stock’s price. While only a single stock, it is one of the headline members of the FANG acronym, a group of tech story stocks achieving strong growth during the last several years. Such news can be rattling in the short-term to momentum investors, as it could potentially puncture holes in a firm’s network effect and fundamental competitive advantage. Aside from serving as an example for stock-specific risk, having multiple ‘worries’ in a given day can exacerbate negative sentiment.
Fundamentals represent the force equity markets find themselves adhering to over time. These inputs aren’t always complicated, and come down largely to earnings growth and an environment accommodative for future earnings growth—such growth is estimated to be well into the double-digits this year and next. The FOMC statement and press conference comments yesterday acknowledged stronger economic conditions but also a lack of inflation concerns (although it was mentioned they will be closely watching—as one of their key mandates, inflation is something they’re always watching, so this wasn’t big news). The base case viewed by a variety of economists and market strategists continues to appear benign, with steady interest rate increases back towards normal representing a slower, methodical reduction in accommodation more than they are inflation-fighting. The former would likely be a more positive environment for risk assets than the latter, which explains the generally positive sentiment aside from the unique and unusual issue of the tariff wildcard.