October 2018 Market Commentary
Ethan Pollard | November 06 2018
If October felt scary to you for reasons unrelated to Halloween, it may be due to the stock market’s biggest one-month decline in nearly ten years. In February of 2009, the S&P 500 index lost -10.6%, marking the end to the roughly 56% decline in stocks brought on by the global financial crisis. This month’s decline was far more measured in nature, as the S&P lost just -6.8% during October. It also comes with a far different backdrop than 2009, as we are currently in the midst of what some consider to be the longest bull market in US stock market history and a thriving domestic economy.
Why then, you may ask, did markets sell off so aggressively in October? While there is rarely (if ever) one specific catalyst that is responsible for moving the markets, pundits have pointed to a variety of negative factors hanging over the market, including (but not limited to):
- Concerns that trade tensions and higher interest rates will combine to choke off economic growth
- Jitters ahead of the midterm elections
- Questions around overvaluation in technology stocks
- A moderation of corporate earnings expectations after a prolonged period of strong earnings growth
While we could spend the rest of this letter pontificating about what may have caused the recent declines, we would rather ask what the data tells us we ought to expect going forward. Our firm’s outlook boils down to our Three Dials investment philosophy. Below is a summary of each of the three indicators that we use to inform our asset allocation decisions, how they have changed in the last month, and what they tell us about the investment landscape to come.
1. Economic Fundamentals: Positive (unchanged from last month)
US GDP advanced 3.5% during Q3, marking another solid quarter of growth in the real economy. Furthermore, the Conference Board’s most recent Leading Economic Index release showed 0.5% increase in September, “suggesting that the US business cycle remains on a strong growth trajectory heading into 2019”. While economic data is far from perfect – manufacturing levels have declined to recent lows, for instance – we believe that the US economy shows no signs of dipping into a recession in the near future. As such, our Fundamental Dial continues to show a “Positive” reading.
- Market Sentiment and Momentum: Neutral (downgraded from Positive last month)
What has proven to be a resilient stock market for the past several years broke down slightly as sellers were able to gain the upper hand during the majority of the past month. Much of the run-up in stocks during this bull market has been characterized by buyers stepping in at key support levels, which for the time being have been breached. However, strong buying activity during the last two days of the month allowed markets to pare some of their October losses. It remains to be seen whether buyers will continue to step in and support recovering stock prices, or if a downward formation will continue in the coming months. Due to this new degree of uncertainty, our Momentum Dial has turned from “Positive” to “Neutral” since its last reading.
- Valuation: Negative (unchanged from last month)
Readers of our past publications will note that we have been bearish when it comes to valuation for quite some time. We believe that the outsized decline in the tech-heavy NASDAQ 100 index, which lost -8.6% during the month and trades at a significant premium to the broader market, reflects some shared concern over valuation. On a cyclically-adjusted price-to-earnings multiple, we may still be in the second most expensive market of all time, behind only the Dot Com Bubble of the early 2000’s. While overvaluation may not be enough to cripple a bull market, it could certainly exacerbate a downturn alongside other factors. Even if we were to see a rebound in stock prices in the coming weeks, concerns over valuation would still lead us to suggest moderation when it comes to risk-taking in the current environment.
On a composite basis, our “Three Dials” have shifted into a “Neutral” position, from a “Moderately Aggressive” reading at the end of September. We believe that the probability of a prolonged adverse market event has increased, if only slightly, given recent activity, and as such we are taking action in our portfolios to remove a small degree of risk at this time. Keep in mind that we are not calling for any dramatic action, only a slight adjustment on the margins to add a degree of downside protection.
We remain vigilant as we watch over developments in the markets and the economy, and we will continue to be proactive in our portfolio positioning to best achieve our clients’ individual goals going forward. We are more than happy to discuss your individual portfolio with you at your convenience. As always, we greatly appreciate your trust and look forward to our next conversation!
Ethan Pollard on behalf of your Archetype Wealth Partners team
Ethan Pollard serves as Vice President of Portfolio Management with Archetype Wealth Partners. He handles many of the research, trading and financial planning responsibilities at Archetype Wealth Partners, including the development of our economic and portfolio risk sensitivity models. Originally from Houston, Ethan currently resides in Chapel Hill, North Carolina with his wife Katie. Archetype exists to help families thrive across generations.
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