Investors brace for the return of volatility
NEW YORK (MarketWatch) — If the ups and downs of the past week have taught investors anything, it’s that there are cracks in this 5 1/2-year-old bull market.
The lesson for investors? Tread carefully.
Stocks took a tumble as a raft of economic data sparked fears the Federal Reserve could speed up its timetable for raising interest rates. The S&P 500 index SPX -0.29{92d3d6fd85a76c012ea375328005e518e768e12ace6b1722b71965c2a02ea7ce} took its biggest weekly hit in more than two years, losing 2.7{92d3d6fd85a76c012ea375328005e518e768e12ace6b1722b71965c2a02ea7ce}. The Dow Jones Industrial Average DJIA -0.42{92d3d6fd85a76c012ea375328005e518e768e12ace6b1722b71965c2a02ea7ce} , meanwhile, sliced through its 50-day moving average and erased the gains that had tenuously built up this year.
“It reminded people that the stock market can actually go down. It seems like a lot of people had forgotten,” said Mike O’Rourke, chief market strategist at JonesTrading.
This past week saw a number of economic indicators: a robust 4{92d3d6fd85a76c012ea375328005e518e768e12ace6b1722b71965c2a02ea7ce} expansion in second-quarter GDP suggested a resurgence in economic activity, while a jump in a highly-watched wage index was a sign that employee earnings, the holy grail of labor market growth, was finally picking up. Even Friday’s soft jobs report didn’t undo the worries about the Fed.
Bracing your portfolio
Indeed, investors should expect more volatility, not less, as the Fed moves closer to rate hikes, analysts say. The central bank is generally expected to begin raise its key lending rate in the middle of next year.
“Every time we see data really heat up, it will really spook investors and keep a cap on the equity market for the time being.” said O’Rourke.
That’s not to say all market participants are calling for a steep drop. “We see the mid-cycle rally as having plenty of room to run before we get a 10{92d3d6fd85a76c012ea375328005e518e768e12ace6b1722b71965c2a02ea7ce}-plus correction,” said Binky Chadha, a particularly bullish strategist at Deutsche Bank, in a Friday report .
Read more on the debate: Jonathan Burton says ignore the bears and bank a 22{92d3d6fd85a76c012ea375328005e518e768e12ace6b1722b71965c2a02ea7ce} stock market gain while Mark Hulbert sees 3 market warning signs that predict 20{92d3d6fd85a76c012ea375328005e518e768e12ace6b1722b71965c2a02ea7ce} stock tumble.
Still, the trepidation in the market may leave it open to the kind of knee-jerk reaction seen on Thursday, when the Dow skidded 317 points for its biggest one-day loss since February.
“A very small impetus can have an exaggerated effect. That may be the kind of market we are in for the rest of the year,” said Scott Clemons, chief investment strategist at Brown Brothers Harriman Private Banking.
Given that murky outlook, strategists are advising caution. O’Rourke notes investors appear to be rotating out of riskier small-cap companies back toward stalwart large-cap stocks.
That’s represented in the relative performance of the Russell 2000 index RUT -0.46{92d3d6fd85a76c012ea375328005e518e768e12ace6b1722b71965c2a02ea7ce} , which is more heavily weighted to companies with smaller stock-market capitalizations, versus the large-cap S&P 500. The Russell 2000 is down 4.2{92d3d6fd85a76c012ea375328005e518e768e12ace6b1722b71965c2a02ea7ce} on the year, while the S&P 500 is still up 4.2{92d3d6fd85a76c012ea375328005e518e768e12ace6b1722b71965c2a02ea7ce} during that time frame.