Disruptive Forces and Market Corrections

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Although U.S. gross domestic product (GDP) for 2018 achieved a year over year increase of approximately 3.25%, the S&P 500 Index on a total return basis was -13.52% for the fourth quarter of 2018 and the total return for 2018 was -4.38%. The MSCI EAFE (USD) Net Index returned -12.54% for the fourth quarter of 2018 and returned -13.79% for the full year. The MSCI World (USD) Net Index returned -13.42% for the fourth quarter in 2018 and returned -8.71% for the full year. Nearly 50% of the S&P 500 Index traded at a 52-week low on December 24, 2018, marking the highest readings seen in the last decade. All 11 sectors of the S&P 500 are on track to end the year with losses for the first time since 2008.According to BCA Research, the “key question is whether the pessimism is overdone or an extended equity bear market is underway.”1

Markets are now searching for a new equilibrium. The drop in oil prices, political tensions, monetary deleveraging, and the late cycle of the market began to worry equity investors, all contributing to the recent sell-off. We believe the correction of more than a 10% market decline in the last quarter of 2018 is a reactive move to inconsistent market data. While many fundamentals appear solid, especially in the U.S., there are signs that global economies have not totally abandoned deflationary concerns. Energy markets are being disrupted by the crosscurrents of oversupply, shale fracking, and increased wind and solar power. A number of political risks have the potential to disrupt global markets in 2019, particularly the trade war between the U.S. and China. U.K.’s Brexit resolution, Italy’s budgetary woes, and U.S. domestic politics have the potential to destabilize markets. The Federal Reserve’s deleveraging policies of quantitative tightening through U.S. interest rate increases and balance sheet reductions are reducing the amount of liquidity in financial markets. The interest rate the U.S. economy could take in 2018 was higher than the rate of comfort for forward looking financial markets.2 The U.S. dollar (USD) increased 8% the first ten months of 2018 relative to other currencies, hurting emerging market economies that borrowed in USD. The fear of too much corporate leverage and of reduced future corporate earnings has distressed the market. Many asset classes have struggled this past quarter.3

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Martin-Inv-Market Research (1)

 

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