Q3 2014 Market Perspective
On behalf of the Altium Investment Committee;
We hope the change of season finds you well. The increase in market volatility we’ve experienced this fall (represented by the Volatility Index (VIX) chart below) has put a renewed focus on the direction of the markets. No one said investing was easy and we recognize that triple digit intra-day moves on the Dow can be unsettling. Yet, while we can’t predict the future, we do know that corrections are often healthy and short term in nature. With this in mind, we remain firm in our belief that “staying in your seat” by maintaining a well-diversified portfolio and adhering to a long term plan is the right course of action.
In our last update, we reviewed the many economic and geopolitical headwinds that the market has had to grapple with in 2014. Since then, several new worries have been added to the list, most notably a resurgence of terrorism in the Middle East and the spread of the Ebola virus beyond Africa. Evidence of renewed economic weakness in Europe and unexpected weakness in China has also surfaced and contributed to further declines in international markets, commodity prices and interest rates. Who would have thought going into this year that global long term government bond rates would have declined to the 1-2% range, driving bond prices higher? Up until the last two weeks, stocks had remained resilient buoyed by improving domestic economic data (see GDP Growth & Unemployment rate charts), shrugging off the aforementioned developments and continuing to make new highs. Now it appears that after more than 1000 trading days without a significant set-back (one of the longest rallies on record), the much anticipated correction in stock prices may have arrived.
While always uncomfortable, stock market corrections of 5% or more are a regular and normal part of the investing landscape. Measured by the S&P 500, we have had 209 of them since 1927. They tend to occur several times a year, last about a month and take the market down between 5 and 10%. Remarkably, we haven’t had one for approximately 8 months. Perhaps the high volatility of the current correction is attributable to its overdue nature. At the time of this writing, the S&P has declined approximately 8% from its high.
Acknowledging the fact that the stock market has surrendered a portion of its multi-year gain, we remain confident in the long term prospects of the capital markets. Fueled by continuing gains in the labor market and consumer spending, the US economy continues to be the engine of global growth at what appears to be a slow but sustainable pace as illustrated in the following chart. Given the recent declines in oil prices and interest rates, the outlook for inflation remains subdued. The Fed has also re-affirmed its accommodative monetary policy as recently as its August meeting. We will continue to watch for any possible negative effects of the weakness in Europe and China and the higher U.S. dollar on corporate results down the road, but for the moment the outlook for earnings remains strong. While valuation metrics are no longer qualifying as “cheap”, they have not yet reached excessive levels (See P/E chart below).
As we stated in our previous correspondence, we are neither discouraged by the recent volatility in the market nor by the possibility of further moves to the downside. In fact, this activity leads us to a re-affirmation of our belief in maintaining proper diversification throughout the up and down cycles of the market. We do not believe in market timing. Rather, our goal is to provide our clients with an investment return that is in line with his or her risk budget and time horizon through well-constructed portfolios that uphold our commitment to strategic asset allocation.
Gregory Slater, CFA, CFP®
Chief Investment Officer
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