Submitted by Fokken Financial Services on 1/23/19 Article "Quarterly Market Overview" written by Mark Sorensen of Royal Fund Management
The 4th quarter 2018 was one for the ages. After the S&P500 hit its high on September 21st, a market correction started with an ugly October. After a little relief, the holidays were not celebrated by the stock market. From Thanksgiving through Christmas Eve, the S&P500 shed over 11%. It was fascinating to see the worst ever December 24th only to be followed by the biggest point gain ever for the DJIA on the day after Christmas. The volatility that began in October and persisted through Christmas was like a video game. Corrections can be swift and violent and often times do not make a lot of sense. They can definitely test investor fortitude. Unfortunately, market corrections often lead to emotional decisions.
We added market commentary to the Latest News section of the website during the quarter to help make sense of what was happening and to calm nerves. On October 24th we wrote, “Emotional decisions during times like this have always created a huge loss of opportunity over time. Market drawdowns are a normal process of a bull market. It is never fun, but important to remember, the average length of time for a full recovery is fairly short. In other words, stay the course. Be patient or ignore it if you have to, but do not panic.”
On December 10th we wrote, “We are testing the October lows and if it holds we could see the typical V-bottom and a strong rally off the lows.” We did end up going lower at that time, but we have again witnessed the typical V-bottom that always happens when there is too much fear in the market. From the low of December 24th until today, the S&P500 has rallied 12.4%, and the NASDAQ is about 14% off the lows. This is why emotional decisions can be so painful. For investors, having an intermediate to longer term investment horizon, it has always been beneficial to avoid emotional decisions and think of a market correction as an opportunity rather than a reason to panic. Market corrections are a normal process in the context of a bull market. Investors that sell often miss the rally that forms the V-bottom off the correction low.
So where from here? It is not unusual to see the market recover 50-60% of the losses very quickly, like it has this month, only to see more weakness to test the recent bottom. We believe the short term market bottom is in for a few reasons. First, we saw a level of fear that historically signals we are at or near the bottom. The volatility index (fear index) rose to nearly 40. Money was flowing out of stocks and into Treasury Bonds, and gold was rising. This is often referred to as a “flight to quality.” The Put-Call ratio reached record bearish levels. The Put-Call ratio has long been viewed as an indicator of investor sentiment. As a contrarian indicator, when fear is high and investors start to “throw in the towel”, that is usually a good sign that the market has reached the correction low and is about to turn.
In December we also wrote, “This is one of those times when the fundamentals are completely being ignored as the market is trending more on the technical picture and the news of the day.” When this happens, it is important to remember that fundamentals always win in time. Corporate earnings are still growing. Slower growth yes but that is to be expected after the initial benefit of tax reform wanes. The market is valued at less than average historical valuation as if earnings growth was going to be zero in 2019. There are still some headwinds. Does the Fed pause the tightening cycle? Is there resolution to the trade concerns soon? However, fundamentally the domestic economy is still strong. Volatility may remain elevated for a while, but we remain bullish intermediate to longer term.