The U. S. stock market enjoyed a nice recovery from its June low in the early part of the third quarter, only to reverse course and end the quarter at new lows for the year, after a rough September that saw the S&P 500 decline by more than 9%. For the full quarter, the index was down roughly 5%, bringing year-to-date losses for the widely followed benchmark to about 24%.
If stocks have seemed more volatile this year, it’s not your imagination. Indeed, we have seen 35 daily moves of 2% or more in either direction so far this year, versus seven last year. And as of this writing, the volatility continues, with the S&P 500 gaining over 5% in the first two trading days of October, reversing all the third quarter’s loss.
The damage this year has not been limited to the U.S., nor to stocks. Indeed, international stocks are down 26%, bonds (as measured by the most widely followed index of U.S. bonds) are down 15% and even the venerable 10-year Treasury note is down 16%. As a result, our most balanced accounts have not enjoyed the benefits we would normally expect from diversification. A typical, conservative balanced account with 60% in stocks and 40% in bonds could easily be down 20% this year. While we are seasoned to expect occasional bear markets in stocks, we expect better downside protection from our most conservatively positioned accounts.
To put that in some perspective, by some measures this year has been the worst for a balanced portfolio in about 50 years, as you’d have to go back to the 1970s to find a year in which stocks and bonds were both down double-digits.
And yet while the circumstances are unusual, there is no mystery as to the cause. To combat rampant inflation, the Federal Reserve has undertaken an aggressive campaign of interest rate increases and signaled a commitment to continue doing so until inflation is under control. As a result, the yield on the 10-year Treasury has jumped from about 1.5% at year-end to over 4% as stocks hit their low for the year. And as stocks have recovered some in recent days, the yield on the 10-year settled back down to around 3.6%.
We continue to believe the Fed is on the correct path and that getting inflation under control is, and should be, their primary objective. The market may not like higher rates, but in the long run, stable prices and positive real interest rates are vital to a healthy and functioning economy.
If you follow the prognostications of the financial media, you can find calls for everything from “the mother of all crashes” to the “buying opportunity of a lifetime.” While we aren’t fans of such hyperbole, either could be right, at least directionally. Perhaps more importantly, both could be right. Meaning, if someone were to ask us, “Does this sell-off have further to go? Or is it time to buy?” The answer might be “yes” to both. Yes there may be more downside. And yes it’s probably a good time to buy. Because we don’t know what stocks will do in the short run, or how markets will react to data in the coming months. But we do know that buying stocks when they have come down in price as much as they have tends to produce good long-term results, even if you don’t pick the bottom.
And while we know it is never fun to watch your account balances decline, we find some high-level perspective can be helpful. It is worth remembering that we enjoyed some surprisingly good returns from stocks over the previous few years, well above long-term averages. And yes, we have given up about two years of gains, but stock returns are still solidly positive over the past three and five years. And we believe three-to-five years hence, you will be better off than you are today, and we continue to look for the investments that can provide those returns.
SoundPath Investment Advisors
Eddie Carlisle Doug Muenzenmay Julius Ridgway