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Investors Skittish as Market Reaches New Highs & Abnormal Valuations

After a strong start to the week, U.S. stocks fell sharply Thursday on the back of disappointing results from Walmart and Cisco. Terror attacks in Spain and ongoing turmoil in the White House likely exacerbated the fall. Foreign stocks fared better, driven primarily by a strong week from emerging markets. Bonds were flat and gold was slightly down.

Weekly Returns:
S&P 500: 2,425 (-0.6%)
FTSE All-World ex-US: (+0.5%)
US 10 Year Treasury Yield: 2.19% (+0.00%)
Gold: $1,285 (-0.3%)
EUR/USD: $1.176 (-0.5%)

Major Events:

  • Tuesday – North Korea officially backed down from its threats to launch a missile strike at Guam.
  • Wednesday – The U.S. Federal Reserve released its most recent minutes, showing a growing split on the timing of the next rate increase due to weak inflation readings.
  • Thursday – Industry bellwethers Walmart and Cisco reported weaker-than-expected quarterly results.
  • Thursday – A terror attack in Spain took the lives of at least 13 people.
  • Friday – Steve Bannon stepped down from his position as President Trump’s chief strategist in the White House.

Our Takeaway:

Thursday’s domestic selloff was mostly attributed to a string of disappointing earnings results from the likes of Walmart and Cisco. Of course other factors were at play, but the sharpness of the selloff seemed a bit unwarranted. After all, it was just a couple of misses in what has been a very strong quarter of positive earnings surprises. And this seems to be a trend of late. A recent report from Goldman Sachs showed companies reporting negative earnings surprises are being punished more severely than those being positively rewarded for beating expectations.

Does this mean the market’s upside potential is limited or, worse yet, that a recession is near? Not at all. It’s mostly a reflection of investors’ skittishness as the market reaches new highs and valuations sit above historical norms. This is healthy behavior. We’d be more concerned if investors were piling into equities on mediocre, or even weak earnings results. Of course an eventual broader market correction is possible, but this has been the case for some time now. No one can really predict these since they’re unannounced, and the market often recovers almost as fast as it falls. Investors who try to avoid them just end up getting hurt in the long run.

At the end of the day we need to put these little selloffs in perspective. The fact remains that global economic conditions are positive. U.S. corporate earnings have been strong and the employment situation continues to be a bright spot. Growth in Europe is also gaining momentum. As such, we don’t see anything suggesting this selloff is the beginning of something more sinister.

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