*At the time that I wrote this markets had just finished several positive sessions, however by the time it was ready markets had once again changed directions!
I’m going to potentially embarrass myself and go on the record as saying we shouldn’t place too much trust in the current market rally, though the upturn is welcomed.
Rallies present opportunities for potential short-term gain, and with markets having shed roughly 10% over the month of October, there is certainly money to be made if you’re feeling sufficiently opportunistic and have a plan. For the rest of us, the rally is a welcome break the punishment the market has been delivering, and an opportunity to see portfolios stabilize and regain some ground.
The long-term viability of a rally, its ability to transition from opportunistic buying to sustained growth, very much depends on the fundamentals of that rally. Are markets sound, but oversold? Or are fundamentals deteriorating and represents more hopefulness than anything else?
Readers of this blog will not be surprised to find out I have no set answer to this question. As always, “it depends”. But as I look over the news that has supposedly rekindled the fire in the markets much of it seems at best temporary, perhaps even fanciful. Up against the wall of risk that investors are currently starring down, the best news currently available is that Trump had a phone call with Xi Jinping and has asked for a draft to be prepared to settle the trade disputes between the two countries.
I’m of the opinion that a recession isn’t imminent, but it should be obvious that recessions happen and the longer we go without one, the more likely one becomes. That seems especially true in a world that is undergoing a seminal shift when it comes to international trade and multilateral deals. To take one example, in the last year U.S. soybean exports to China have dropped by 97%, with no exports for the last quarter. This is a trade war still in its infancy. Other market data is mixed. Even as job growth exceeds expectations it will also keep the Fed raising rates. Housing starts have dropped significantly below expectations, driven in part by rising costs.
All this is to say that market rallies like the one we’ve just seen should be treated with trepidation. Investors should be cautious that a bottom has been reached and that this is a good time to rush into the market looking for deals, and we should keep an eye on the fundamentals. Rallies falter precisely because they can be based more on hope than on reality.
So what should investors do if they want to invest but are unsure about when to get into the markets? Come talk to us! Give us a call and help get a plan together that makes sense for your needs! Check out our new website: www.walkerwealthmgmt.com or give us a call at 416-960-5995!
This past week markets had a sudden and sustained sell off that lasted for two days, and though they bounced back a little on Friday, US markets had several negative sessions. The selloff in US markets, which began on Wednesday and extended into Thursday, roiled global markets as well, with extensive selling through Asia and Europe on Wednesday evening/Thursday morning. At the end of the week Asian, European and Emerging markets looked worse than they already were for the year, and US markets had been badly rattled. This week has seen an extension of that volatility.
Explanations for sudden downturns bloom like flowers in the sun. Investors and business journalists are quick to latch onto an explanation that grounds the unexpected and shocking in rational sensibility. In this instance blame was handed to the Federal Reserve, where members had been quoted recently talking about higher than expected inflation forcing up lending rates at an accelerated pace. This account was so widely accepted that Donald Trump was quoted as saying that “The Fed has gone crazy”, a less than surprising outburst.
I tend to discount such explanations about market volatility. For one, it seeks to neuter the truth of markets as large complex institutions that are subject to multiple forces of which many are simply invisible. Second, by pretending that the risk in markets is far more understandable than it really is, investors are encouraged to take up riskier positions and strategies than they rightly should and ignore advice that has proven effective in managing risk. Finally, I have a personal dislike for the façade of “all-knowingness” that comes along after the fact by people who have parlayed luck into “expertise”. Markets are risky and complex, and it would be better if we treated them like a vicious animal that’s only partially domesticated.
In fact, as markets continue to grow with technology and various new products, complexity continues to expand. At any given time markets are subject to small investors, professional brokers, pension funds, algorithm driven trading programs, mutual fund managers, exchange traded funds and even governments, all of whom are trying to derive profits.
So what does that tell us about markets, and what should we take from the recent spike in volatility? One way to think about markets is that they operate on two levels, a tangible level based on real data and expectations set by analysts, and another that trades on sentiment. On the first level we tend to find people who advocate for “bottom up investing”, or the idea that corporate fundamentals should be the sole governor of stock’s price. If you’ve ever heard someone discuss a stock that’s “under-performing,” “undervalued,” “out of favor,” or that they are investing on the “principles of value” this is what they are referring to. People who invest like this believe that the market will eventually come around to realizing that a company hasn’t been priced correctly and tend to set valuations that tell them when to buy and sell.
The second level of investing is based on sentiment, informed by the daily influx of headlines, rumour and conspiracy that clogs our news, email inboxes and youtube videos. This is where most investors tend to hang their hat because its where the world they know meets their investments. Most people aren’t analyzing a specific bank, but they may be worried a housing bubble in Canada, or the state of car loans, or the benefits of a recent tax cut or trade war. The sentiment might be best thought of as the fight between good and bad news informing optimism and pessimism. If a bottom up investor cares about a company they may ignore general worry that might overwhelm a sector. So if there is a change in in the price of oil, a value investor may continue to own a stock while the universe of sentiment sees a widespread selling of oil futures, oil companies, refining firms and downstream products.
As you are reading this you may believe you’ve heard it before. Indeed you have, as our advice has remained consistent over the years. Diversification protects investors and retirement nest eggs better than advice that seeks to “beat the market” or chases returns. However, it seems to me that the market sentiment is undoubtedly a stronger force now than its ever been before. As more investors come to participate in the market and passive investments have grown faster than other more value focused products, sentiment easily trumps valuations. Since we’re always sitting atop a mountain of conflicting information, some good and some bad, whichever news happens to dominate quickly sets the sentiment of the markets.
You don’t have to take my word for it either. There is some very interesting data to back this up. Value investing, arguably the earliest form of standardized profit seeking from the market, has remained out of favor for more than a decade. Meanwhile the growth of ETFs has continued to pump money into the fastest growing parts of the market, boosting their returns and attracting more ETF dollars. When the market suddenly changed direction on Wednesday, the largest ETF very quickly went from taking in new dollars to a mass exodus of money, pushing down its value and the value of the underlying assets. At the same time some of the worst performing companies went to being some of the best performing in a day.
So what’s been going on? The markets have turned negative and become much more volatile because there is a lot of negative news at play, not because interest rates are set to go up too quickly. Sentiment, that had been positive on tech stocks like Amazon and Google gave way to concern about valuations, and with it opened the flood gates to all the other negative news that was being suppressed. Brexit, the Italian election, the rise of populism, currency problems in Turkey, a trade war with China and rising costs everywhere came to define that sentiment. As investors begin to feel that no where was safe, markets reflected that view.
Our advice remains steadfast. Smart investing is less about picking the best winner than it is about having the smartest diversification. A range of solutions across different sectors and styles will weather a storm better, and investors should be wary of simplistic answers to market volatility. Markets always have the potential to be volatile, and investors should always be prepared.
All year people have been expecting a correction in the US Markets. For most of the year I have listened to portfolio managers discuss their “concern” about the high valuations of American companies. I have also listened to them point out that America remains the strongest economy and the most likely to see significant growth in the coming year.
Flash forward to late-September, early October and the markets have finally had their corrections. At the bottom every market was negative, including the TSX which had given up all of its YTD high of 15%. That was the bottom. The recovery was swift, money flowed back into the markets, and hedge fund managers managed to make a mockery of some otherwise nervous DIY investors. Now the markets look strong again, with the S&P 500 reaching new highs. Nobody is happy.
All of this comes on the news that US GDP was up 3.9% in the third quarter, a full .5% above analyst expectations (that sounds small, but it’s worth billions) while energy prices continue to decline, manufacturing is highly competitive and US consumers look poised for a significant Christmas bonanza. So what’s wrong with this picture? Why are both the Globe and Mail and the Financial Times worried about the US stock market?
The answer is a combination of fear, data, and the insatiable need for stories to populate the media everyday. First is the fear. Stocks are at all time highs. The problem is that “all time high” isn’t some automatic death sentence for a stock market. The stock market always hits new highs all the time, and a by-product of that is that corrections can really only happen after a high is reached. Look at the history of the S&P 500 since 1960:
As you can probably tell, there are a lot of “new highs” that had occurred over the last 40 years, but each new high did not automatically translate into some automatic correction. There were legitimate reasons why the economy could continue to grow, and in the process make those companies in the stock market more valuable. That isn’t to say that the stock market can’t be “frothy” or that their aren’t problems in the stock market today. It merely means that setting a new market high isn’t proof of an impending collapse.
The second issue is data. We live in an age of Big Data. Data is everywhere and there is so much it can be hard to separate the useful data from the useless. Some of the data is concrete, but much of it takes time to understand or even become clear. The first analysis of the higher than expected GDP numbers seemed great (more economy, Yay!) but upon closer inspection, there are reasons to be cautious. While the GDP was higher than expected, it was largely due to growth in government spending, not consumer spending. In fact consumer spending was lower quarter over quarter. In addition there are a number of concerns about how corporations are spending their profits and whether that is sustainable. Many of these concerns, when taken in context, seem to be the same from earlier in the year.
The third factor is the insatiable need to write something. Content is king in the news world and providing insight (read: opinion) means that you must constantly produce new stories to publish. That means that there is a need to be constantly suggesting that things are about to go wrong (or more wrong than they already have) to create a compelling story. It isn’t that these stories are wrong, just that constantly saying the stock market is going to go down isn’t insightful, since at some point we can expect the stock market to correct for one of a number of reasons.
So is America frothy? Are we poised an some kind of financial collapse? I don’t know, and nobody else does either. We are no more likely to correctly know when the market might correct again than we are to guess the future price of gas. The best response is to diversify, and remember some core elements of investing. Buy low and sell high. With that in mind sturdy investors should probably start giving the beat-up and maligned Europe a second look…
Last Friday I watched the TSX start to take a precipitous fall. The one stock market that seemed immune to any bad news and had easily outperformed almost every other index this year had suddenly shed 200 points in a day.
Big sell-offs are common in investing. They happen periodically and can be triggered by anything, or nothing. A large company can release some disappointing news and it makes investors nervous about similar companies that they hold, and suddenly we have a cascade effect as “tourist” investors begin fleeing their investments in droves.
This past week has seen a broad sell-off across all sectors of the market in Canada, with Financials (Read: Banks), Materials (Read: Mining) and Energy (Read: Oil) all down several percentage points. In the course of 5 days the TSX lost 5% of its YTD growth. That’s considerable movement, but if you were looking to find out why the TSX had dropped so much so quickly you would be hard pressed to find any useful information. What had changed about the Canadian banks that RBC (RY) was down 2% in September? Or that TD Bank (TD) was down nearly 5% in a month? Oil and gas were similarly effected, many energy stocks and pipeline providers found themselves looking at steep drops over the last month. Enbridge (ENB) saw significant losses in their stock value, as did other energy companies, big and small, like Crew Energy (CR).
All this begs the question, what changed? The answer is nothing. Markets can be distorted by momentum investors looking to pile on to the next hot stock or industry, and we can quibble about whether or not we think the TSX is over valued by some measure. But if you were looking for some specific reason that would suggest that there was something fundamentally flawed about these companies you aren’t going to have any luck finding it. Sometimes markets are down because investors are nervous, and that’s all there is to it.
Market panic can be good for investors if you stick to a strong investment discipline, namely keeping your wits about you. Down markets means buying opportunities and only temporary losses. It help separates the real investors from the tourists, and can be a useful reminder about market risk.
So was last Friday the start of a big correction for Canada? My gut says no. The global recovery, while slow and subject to international turmoil, is real. Markets are going to continue to recover, and we’ve yet to see a big expansion in the economy as companies deploy the enormous cash reserves they have been hoarding since 2009. In addition, the general trend in financial news in the United States is still very positive, and much of that news has yet to be reflected in the market. There have even been tentative signs of easing tensions between Russia and the Ukraine, which bodes well for Europe. In fact, as I write this the TSX is up just over 100 points, and while that may not mean a return to its previous highs for the year I wouldn’t be surprised if we see substantial recoveries from the high quality companies whose growth is dependent on global markets.
If there is any doubt about whether the internet is changing how we do business I think it is best summed up in the above chart from Statista.com, which highlights both how Amazon continues to grow its sales while simultaneously losing money.
The point here is not to criticize Amazon’s business practices. Its an enormously successful company, but its share price has continued to grow in the face of declining revenues. What other company could operate like this outside of the internet? Apple, who I’ve written about before, is uniquely profitable but is frequently criticized for not growing enough even while it crushes its competitors.
The other way to look at this is whether Walmart would be given similar considerations? Amazon is spending and investing everything that they make, and in the process some of those investments run at a loss. This is good for us, but its rare that the market rewards companies who ignore the shareholder so entirely for the sake of the consumer.