China, China, China
As we moved through the month of August, the “dog days of summer” typically usher in very low trading volume thus amplifying moves in the market up or down. Ongoing concerns over trade agreements with China was the primary driver, as the broad indices slumped, primarily during the first week of August, and bounced around a fairly tight range for the following three weeks. The S&P was down around 2% for the month while the tech heavy NASDAQ shed close to 3%. Bonds provided their true purpose of diversification and non-correlation to risk assets, rising close to 2%, which helps offset a portion of the declines in stocks. Volatility picked up as well, casting further cloudiness on where the market wants to go.
Depending on the day, and who tweeted what, the market moved in the direction of the overall tone of the China trade war theme. Down one day, up the next, with very little consistency, other than this pick up in volatility, which is typical during this season generally, and toward the later stages of an economic expansion specifically.
The other driver of market direction was the inverted yield curve, historically a leading indicator of recession. An inverted yield curve simply means that shorter dated bond yields are higher than longer dated bond yields, implying that investors have concerns about future growth and productivity. In this context, however, it is important to note that money from around the world is being allocated to U.S. Treasuries, more so in the short to intermediate duration bonds, which, based on the laws of supply and demand, such buying pushes prices up. We believe that the flows into U.S. Treasuries are a function of the fact that many other sovereign bonds carry negative yields, so U.S. Treasury yields, while historically low, are very attractive on a relative basis.
Regarding the outlook of recession, it is imperative that we understand that recessions are a normal part of the economic cycle. The global economy cannot and does not expend all the time. There are periods, and will be periods, of economic expansion AND contraction. When the economy contracts, a recession takes place, but can only be confirmed in the rear view, as a recession requires two back to back quarters of negative gross domestic product, or GDP. What we do not know (and will not speculate) is when the next recession may occur – it may be next year or five years from now.
Please keep top of mind that strategic asset allocation and appropriate exposure to risk will enable you to get through recessionary environments. Fixed income, or bonds, which have lower risk attributes than stocks, typically do not wiggle nearly as much as stocks do, so if the stock market in in decline, know that your portfolio can still accommodate your withdrawal or income needs from shaving off shares of your bond positions which will allow your risk assets the time necessary to recover, and likely move higher.
We continue to be aware of the heightened risks surrounding the market in the face of the China trade war story, and, as September is typically a month of market weakness, will look forward to ongoing productivity during the final quarter of the year, typically a seasonally strong period for the financial markets.
Because this information on this blog are based on my personal opinions and experience, it should not be considered professional financial investment advice. No financial decisions should be made based off this article without consulting with your financial advisor first.
