In the last newsletter I stated that “change may be afoot.” The first quarter was certainly driven by change. The Standard and Poor’s 500 Index, an index of the 500 largest United States public stocks, fell 0.8% for the quarterthe first negative quarter since second quarter 2015. In 2015, first quarter GDP dropped 0.1% due to falling oil prices inciting fears of an economic slowdown. Consequently, the economy remained strong and the S&P 500 Index posted nine consecutive quarters of gains up until now.
The stock market started 2018 the way it ended the previous yearroaring higher. At the end of January, uncertainty was creeping into the market due to four primary factors:
1. New Federal Reserve Chair. Jerome Powell was sworn in on February 5, 2018, replacing Janet Yellen as Chairman of the Federal Reserve. With change came uncertainty regarding the pace of interest rate hikes this year, which could slow economic growth.
2. Technology Regulation. Concerns of future technology regulation were raised following the news that Facebook may have misused user data.
3. Tariffs. President Trump signed orders to impose tariffs on steel and aluminum from select countries, prompting fears of a trade war. China shot back with tariffs on 128 U.S. imports from meat and fruit to steel pipes.
4. Valuation. S&P 500 prices have topped 20 times earnings since fourth quarter 2014. A price-to-earnings ratio above 20 is well above historic averages. As the bull market continues to advance, concerns about a price correction have risen.
Major indices swiftly lost more than 10% of their value over nine trading sessions in February. A loss of 10% puts indices in correction territory. Many investors believed that a normal correction, marked by a 10% drop in prices, would be healthy for the market and may be overdue.
While it feels somewhat relieving to get this correction out of the way, it is hard to say if this has been enough to shake out concerns of overvaluation in stock prices. Following the sharp run-up at the beginning of the year, the 10% correction only brought prices down to November 2017 levels. We hope to maintain sideways volatility for a few more months to shake out market concerns. However, another sharp drop in prices may be likely before we can move forward again.