After an extended period of strong performance and a rally that saw the S&P 500 Index surge up almost 22% in 2017, volatility returned to the equity markets with a vengeance this week. Thus ending, or at least interrupting a prolonged period of robust market returns and low volatility.

Volatile markets tend to dominate media headlines, so it is important for investors to understand the underlying drivers of market performance during periods such as these. So what caused the sudden change in sentiment? There wasn’t any unexpected dose of bad news, no nuclear threats, recessions, corporate bankruptcies or any other major shocks that caught the market by surprise. The reason for the recent fluctuations can fit neatly into two categories;

First, the market has been abnormally calm for a very long period of time. Bursts of volatility are normal and expected, this one was well overdue in a purely chronological sense. Furthermore, the high level of complacency and optimism in the markets over the last year created vulnerability.

Second, the bond market had started to settle into the reality of tightening economic conditions and rising inflation. This allowed central banks to continue removing stimulus from the economy, thus raising interest rates. Over the past few months’ bond yields have been steadily increasing and just in the last few weeks they experienced a big jump; these changes to the yield curve started to cast a shadow on financial conditions. The tipping point seemed to be the U.S. payrolls report which showed both strong hiring and stronger-than-expected wage growth. Both are bad news for corporate income statements and hint that we are entering the late stages of the current business cycle. That being said, it is unusual for stocks to be down when bond yields are up; an upward shift in the yield curve signals that investors still have confidence in the economy.

Through all of this, we must remember that even though the economy is not accelerating as much as it was before, the current economic indicators are still quite strong. Corporate earnings are positive and growing. The powerful rally that lifted equity markets in 2017 can be attributed to strong global economic growth, the synchronized expansion of developed and emerging markets is expected to continue throughout 2018.

Pullbacks like we have seen over the past few trading days are common and part of normally functioning markets. While short-term trends in the stock market are almost impossible to forecast it is human nature to try and regain control when faced with uncertainty. However, trying to time the markets has never proven to be successful over time; instead, it can have a significantly negative impact on your long term financial goals.

During times of uncertainty try to keep short-term market volatility in perspective, remember markets inevitably go up over time. If you are concerned about your portfolio or have any questions, please don’t hesitate to contact me.

Have a great weekend cheering on our athletes.

Go Canada!

Tracey

 

 

Sources: Putting recent volatility into perspective by RBC Global Asset Management and Global Equities Putting recent market volatility in perspective by Rob Sharps Group Chief Investment Officer T.RowePrice

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