Volatility returned to the markets in February, ending a record for the longest time without at least a 5% decline. At the lowest point, US equity markets dropped just over 10% as margin calls, technical factors, and computerized trading resulted in an “unwinding” of assets. Equity markets finished the month down by a little better than 4% and are now about flat for 2018. Bonds also were negatively impacted as interest rates moved a bit higher.
Market declines of 10% or more are normal market functions even in the best of times and occur on average every 11 months. With stocks having gained over 20% over the previous 12 months, some of the so called market “froth” has been removed, leaving stocks at more reasonable valuations. It is important to note that the recent volatility and selloff do not reflect any deterioration in the steady economic growth that has helped fuel our markets.
The Federal Reserve remains on track to continue increasing short‐term interest rates. The Fed Funds target range currently sits at 1.00‐1.25% with additional increases coming. The Fed recently noted some pickup in inflation and expects conditions to warrant “further gradual rate increases” throughout 2018. They also expressed greater confidence in both their growth forecast and inflation outlook.
As the year progresses and the tax cuts take effect, economic growth is expected to expand and inflation and interest rates should gradually move higher. As in 2017, this year is shaping up to be a strong year for earnings growth. Over time, it predominately has been the growth in corporate earnings that determines the trajectory of stock prices.
As I previously stated regarding the tax reform bill, it is hard to quantify the positive impact that will occur. From the repatriation of hundreds of billions of dollars from overseas, wage increases, hiring initiatives, one‐time bonuses, increased corporate profits, higher dividends….the list goes on and the impact of lower taxes on the average American worker is just now being realized.
As the markets face heightened volatility, it is important to remember that fundamentals for U.S. companies remain strong. And as I stated last month‐ Pullbacks are not a thing of the past and will continue to be a normal function of our markets. However, as long as economic and earnings growth continue to show strength, any market pullback should be short‐lived.
Best Regards, Clay