Market update: Extreme Volatility in financial markets

Market update: Extreme Volatility in financial markets

Dear Friends,

The financial markets saw a substantial sell-off in risk assets today as all major US stock market indices closed down over 7%. Current market levels are roughly 1-2% away from levels that would signal a bear market (20% down from recent highs). The decline was so steep, market circuit breakers kicked in this morning, halting trading for 15 minutes. Market wide trading halts have not been triggered since 1997. Currency and commodities markets have also seen extreme moves.

The moves in the bond market can only be described as unprecedented. The yield on the entire US Treasury bond curve is now below 1%. Investors are demanding less than 1% annual interest to lend to the US government for 30 years. These levels have never been seen before, and are indicative of a flight to low-risk assets by investors. Gold, another safe haven asset popular during volatile times, also reached a 7 year high today.

In our view, there are two precipitating factors for these moves:

  1. We are at the end of an 11 year bull market where US equities have returned over 400%. Valuations were, and continue to be at high levels.
  2. As we discussed in our note last week, the measures being taken to contain the Corona virus outbreak have an impact on economic activity and could lead much of the world into recession.

Our view on the first is not a surprise. to our readers. We have expressed our valuation concerns for several quarters and are not taken aback that the broader market has begun to share them.

On the second, we believe the measures required to contain this dangerous virus may easily have a significant impact on the economy. Several regions across the world, including all of Italy, have mandated quarantines and closed schools. Such steps can curtail economic activity for weeks. Major employers in the north-western US have mandated employees work from home. Many large US employers have curtailed non-essential travel. The impact on the airlines, hospitality and oil industries is already significant, with airline executives comparing the environment to the period after 9/11.

We believe there are significant risks that remain to be expressed. We have repeatedly asked ourselves where the good news is, and cannot come up with a good answer. The market is already pricing in zero interest rates for the next 30 years. Interest rate policy has effectively been neutered. The Federal Reserve has lost substantial credibility under this administration. The market seems skeptical of both fiscal and monetary stimulus, unconvinced either or both can prevent further drops.

We continue to advocate a defensive position and do not see a quick recovery to previous levels for risky assets like stocks. That said, with steep sell-offs come opportunities and we are looking closely at where to deploy capital when valuations become more favorable. We don’t think valuations are there yet, but at some point there will be an opportunity to buy high quality companies at discounted prices.

Please contact us if you would like to discuss your portfolio or investment allocation.


Subir Grewal, CFA, CFP                                                      Louis Berger

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