AMJ Financial Blog

Why does Market Risk seem to happen all at once?

8/1/2014 by Angela Bender, Managing Partner of AMJ Financial Wealth Management

Clients of ours were able to come to our Half-time Outlook meeting just two weeks ago, where we discussed our thoughts and expectations for the next six months.  One of the concepts I discussed, at the Half-time, was how un-naturally low the volatility in the markets had become.  Historically if you look at how often a market goes through a -10% decline in any given year, the probability of that happening is 80%.  See the Chart below from our friends at JPMorgan Funds.

Aug blog pic 1

As we discussed at Half-time, even though we have had Geo-Political concerns around issues like Russia since the 1st quarter, there has been no sign of contagion to broader Europe.  The political issues and fighting have seemed to be contained.  The political will all over the globe was to go down the path of sanctions to cripple Russia from wanting to go any further into Ukraine. That is until recently. The Malaysian flight that was shot down, brought into the light how there could be impact to the rest of the world.  Still, the markets kept calm and carried on. But a few things have happened in the last two days to shake the markets confidence that these geopolitical concerns will be contained.

During the earnings calls yesterday for two multinational corporations, Adidas and Anheuser-Busch Inbev, they cited issues with earnings due to the situation in Ukraine. Russia also responded to sanctions by cutting off produce that Poland and Ukraine sell to them.  Then, something that we haven’t worried about since 2011 came back…Sovereign Risk.  Argentina decided not to pay their bills they owe to the world, and defaulted on their debt.  The expectation was that they would come to a deal to avoid default.  This situation brings back to the minds of investors the serious structural issues that Europe still has to deal with.

So the selling action that we saw come into the market on July 31, 2014 was aggressive.  Yes the Q2 GDP number in the USA had just come in earlier this week at 4%.  That blew by guidance at 3% for Q2 by the way.  The FOMC statements continue to confirm that the fits and starts of growth in the economy have not changed the Federal Reserve’s mind on two issues.  They will continue to reduce their purchases, effectively getting out of the bond markets by October of 2014, and they still see no reason to raise interest rates. So good news seems to be bad for the market.  The unemployment numbers continue to drop, and that makes market participants believe that the Federal Reserve would have to move on interest rates more quickly than they were scheduled. There is no doubt that would cause market disruption.  So here is where market risk starts to happen all at once.

We discussed at the Half-time that volatility would come back into the markets over the last half of this year.  That does not mean though, that a full blown correction of -20% is necessary.  The July Chicago Purchasing Manager’s Index did come in soft, but one month does not make a trend. And with 9 out of 10 stocks still in trend, it is hard to see why a downdraft would become a correction.

The cost of employment came in sharply higher, and that is a necessary ingredient for Inflation.  Inflation is something to worry over.  Again, one report though does not make a trend.  We continue to manage the risk of markets by being diligent to the data.  While yesterday’s move in US Equity markets was unsettling, and we will be adjusting portfolios to account for higher levels of risk, the market this year has had periods of brief selloffs ending with sharp recoveries.

We are now more than 50% through earnings season.  Through the week ending July 25th, 2014, 230 companies have reported.  75% of them have beaten earnings consensus by an aggregate of 4.2%. Forward guidance is also not falling off a cliff.  So ultimately we need to be patient and diligent.  This morning’s Unemployment reports shows improvement in the labor market as well.  The unemployment rate went a bit higher, because more people are looking for work.  That ultimately means good things for productivity and that positively impacts companies’ ability to create earnings.

If you are concerned that you are not positioned correctly for where we are in the market cycle, I invite you to call us to discuss your concerns.

Visit us at www.AMJFinancial.com or call 703-466-0477 today.

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