A short history of market corrections
Senator Schumer accused President Trump of having temper tantrums. This also is a good description of the markets in recent weeks. The S&P 500 dropped by an amount not seen since the 2008 financial crisis, putting us at -12% for the year.
And more tantrums are expected. On Friday, President Trump warned that he might fire Federal Reserve Chairman, Jay Powell, although the White House since rebuked that. This comes after a surprise quarter point rise of the short-term interest rate controlled by the Fed, accurately citing low unemployment and improved economic conditions. However, according to NY Fed, John Williams, the Federal Reserve usually takes action with market conditions in-mind. This wasn’t the case here as Powell stuck to his guns, raising rates while effectively ignoring the current market chaos.
When it comes to market volatility there are two things that I look for. First, I ask myself if this is the “big one,” which has historically been associated with issues in market mechanics. The 2008 financial crisis was caused by failure in the banking system, a mechanical issue that swept across all investments. The current volatility can simply be explained by the current political crisis and the Fed’s decisions as of late. Other asset classes, such as government bonds, have improved significantly in recent weeks giving confidence that there are no market mechanical issues. Therefore, I can rule out that this is the big one.
The next thing that I try to do is to determine the scope of the drawdown. When the market shakes so quickly, technically this is considered oversold, and, if history is any guide, it can be expected that a reversal is in the midst. On July 20, 1998 the market dropped 22% in one week, only to reverse with a full recovery the immediate 10 days after. (See chart ^1.) On January 31, 1994, a 10% drop turned into a famous six year long bull stretch. But, with a no-compromise White House on the budget, surprise resignation of our military leaders, and looming White House indictments, there's no clear bottom with regard to stocks.
It's fair to say that the last decade’s bull run it's over, or more accurately, has changed its shape. A more likely outcome is a sideways stretch from here, where investors can expect to receive dividends from their Investments but no more easy gains by investing in just about anything.
^1:
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