Volatility has returned to stock markets with intraday swings in major indices that haven’t been seen since the regional bank panic two years ago. This time, tariff and trade policy are center stage.
Corrections are a feature of a properly functioning market, but caution is warranted during periods of considerable uncertainty. Putting volatility in perspective and maintaining a long-term focus can help investors weather market fluctuations. Market volatility can also present opportunities for investors who remain disciplined and approach investments in the context a well-diversified asset allocation strategy.
Gain insights into recent market activity, volatility, and economic policy shifts that can help you make informed investment decisions.
As growth and recessionary risks get priced into the market, the yield an investor demands from riskier assets goes higher. This is quantified as the spread or additional yield in excess of the risk-free rate with an equivalent maturity, also known as a U.S. Treasury.
Investors want more return for more risk. Credit spreads aren’t blowing out, which would demonstrate an excessive amount of risk being priced in. Concerns for the growth and health of corporations would see credit spreads widen substantially more than the current market has seen.
Bonds usually dictate credit concerns by widening spreads and then equities respond. This isn’t happening, indicating equities are responding to headline risk not individual corporate risk. Equities have been acting as the cushion in the capital stack, without any residual impact on the more senior components of that stack that would signal a greater risk.
The VIX Index, a popular measure of stock market volatility, is elevated but jumping around. Intraday moves of 8% up or down isn’t indicative of a trend but that the market is responding to short-term news.
A VIX slowly moving upwards is indicative of a down trend, we have not seen this slow directional movement. This doesn’t mean the market is out of harm’s way but shows there’s no real direction or fundamental case for the impact of the current news cycle.
The year started with tariff volatility and the market elevated with prices very rich. Now the average stock is down more than the indices.
The biggest stock sellers have been leveraged hedge funds that need to unwind per risk controls which compounds the short-term selling until that leverage is out. Generally, there are still more inflows than outflows.
Earnings have been driving returns up until now and there hasn’t been a major earnings revision. The bounce predicted by analysts and the tailwind from the new administration seems to be delayed. Repricing of the market looks to have simply delayed the growth of the first half of the year to the second half versus negating it altogether. The barriers and uncertainty of our trade policy is likely the temporary speedbump being calculated into these earnings coming later than expected.
Timing the market rarely pays off. During pullbacks investors trying to time the market tend to lose more than the temporary pullback itself. The combination of not selling at the top, taking a tax hit to sell, and getting back in is hard to do.
Investors getting out of the market during volatile headlines often don’t re-invest on continued negative headlines. Typically, they wait until there’s good news which is too late. The market typically bottoms on bad news, so waiting for good news means waiting too long. Fear of missing out eventually has them reinvesting once the recovery has passed; they hurt more than help themselves.
Pullbacks of 10% or more are normal. Buying those pullbacks tends to lead to average returns of 12% plus over the next 12 months.
A common investor pitfall is to think this time is different; it isn’t.
The headlines may be different, your reaction may be different, or your interpretation may be different, but the market is still the same discounting mechanism it’s always been.
Elevated volatility occurs for different reasons but typically means extra risk for strategy changes. When volatility spikes, intraday moves in the market spike. Deciding based on one of those points as a reference can result in significant losses by the time a trade is executed or rebalance undertaken.
It’s prudent to stay invested through rocky times.
Where you are in your allocation process or financial lifetime plays a significant role in implementing strategies for managing your portfolio in light unexpected market dynamics, for example:
Making large strategy or allocation changes during volatility can increase risk. Align changes to your long-term wealth-building plan. Making changes based on political activity or current news cycles isn’t a plan and can prevent you from reaching your goals. Volatile market environments like this can be good pulse checks to determine if you really are comfortable with the ups and downs that come with your market exposure.
To learn more about how to effectively weather market volatility, contact your Moss Adams professional.