What’s The Damage?

Hi all,

The first two months of the year saw the smallest range of prices on the S&P 500 in the 98 year history of the index.  March proved it was, indeed, the calm before the storm.  The S&P 500, Nasdaq 100, and Russell 2000 each fell around 5% last month.  The United States entered a war with Iran, sending oil and gasoline prices up over 100% within weeks.  With an economy on shaky footing from sticky inflation, a housing market that desperately needs lower rates, and a labor threat from artificial intelligence, the strikes on Iran were the proverbial straw that broke the market’s back (although the market had been weak for months prior).

What’s most notable about the most recent decline is not that it occurred, but the manner in which it has presented.  Most experienced advisors and market watchers, like myself, expected sentiment to continue to deteriorate, culminating with a panic-like wave of selling to mark the start of a bottoming process that typically lasts a few weeks to a few months.  As I mentioned, the decline was not unexpected, as we’ve now had a 10% down draft in four of the last five years.  Volatility is the price of admission.  But it’s the LACK of panic in the overall markets that has me (and others) scratching our heads.

Without seeing the extreme sentiment signs, it makes it very difficult to determine if this is a garden-variety correction, or just a way station before resuming our decline in the second quarter.  The obvious answer is that no one knows, but as I wrote to a client last week, the bull argument focuses heavily on fundamentals.  Earnings estimates have not come down.  The market is still expecting double digit revenue growth across the board.  If they are right, some stocks look very cheap.  Technology, relative to the overall S&P, is the cheapest it has been since 2019.  While others are getting caught extrapolating the whims of someone who has the attention span of a gnat, we’re getting excited about putting money to work in some incredible companies that are currently out of favor (META trading at 18x earnings, NVDA trading at 22x earnings for a company growing revenue at close to 50% per year).  

The bear case focuses on uncertainty affecting almost every piece of our lives. Oil prices remain stubbornly high.  If this persists and begins to leak into the price of consumer goods and causes long-term inflation to spike back up, we’ve got a real problem.  Not the least of which is that it puts the Fed between a rock and a hard place because they won’t be able to lower interest rates, and in fact, there has started to be talk of RAISING interest rates early in 2027 if inflation becomes entrenched.  The Federal Reserve raising rates is what really causes recessions, not energy supply shocks.  If that were to happen, S&P 6100 or even lower is possible (about another 10% down). 

At this point in my career, I lean much more toward the optimistic side of the ledger.  One notch in the belt of the bulls, is the advance/decline line relative to price.  While prices were making new lows last Monday, the number of stocks making new lows did NOT increase.  It’s one piece in a massive puzzle, but it’s a divergence that should be noted.

I would love to see one more sharp decline that scares out those investors who can’t withstand this type of volatility (maybe coincident with a “deadline”), but there’s no rule that says we have to get these capitulation declines in order for us to move back toward all-time highs.  We’ve been extremely cautious coming into the year (and even a good portion of last year), and remain slightly cautious, but our eyes have turned to putting more money to work over the next several weeks, assuming we continue to see signs a durable bottom is in place.

– Adam

“You make no money doing the things that everybody wants to do.” – Howard Marks