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Market Recap – A Week of Volatilility Comes To A Close

Market Digest – Week Ending 8/28

Stocks opened the week in a free-fall, driven by a combination of knee-jerk and computer algorithm driven selling. The close on Monday marked the first official correction for the S&P 500 (a decline of more than 10%) since 2011. Volatility remained high for the remainder of the week, but stocks found buyers and finished higher for the week overall. A strong US GDP report helped quell uncertainty about the pace of China’s economic slowdown.

Weekly Returns:

S&P 500: 1,989 (+0.9%)
FTSE All-World ex-US: (+1.1%)
US 10 Year Treasury Yield: 2.18% (+0.14%)
Gold: $1,134 (-2.2%)
USD/EUR: $1.119 (-1.8%)

Major Events:

• Monday – Global stock markets swooned, with the S&P 500 losing 3.9% and entering official correction status.
• Monday – Netflix partnered with Softbank to launch a video streaming service in Japan.
• Monday – Southern Company agreed to buy AGL Resources for $8 billion.
• Tuesday – OshKosh won a $6.7 billion military contract to replace Humvee.
• Wednesday – A computer glitch was said to be preventing dozens of mutual funds and ETFs from pricing correctly.
• Thursday – Monsanto dropped its bid to acquire Syngenta. Shares rose.
• Thursday – US oil prices rose 10%, their biggest gain since 2009, as the us posted strong economic growth and Chinese shares rose.
• Thursday – Preliminary Q2 GDP growth was reported at 3.7%, ahead of expectations.
• Thursday – Spanish Q2 GDP grew at 1%, ahead of expectations.
• Friday – Federal Reserve Vice Chairman Fisher said the Fed was still on the fence regarding an interest rate hike in September.

Our take:

For the first time since 2011, the S&P 500 experienced a correction, defined as a decline of 10%. Where do stocks go from here? We don’t know, and neither does anyone else.

For perspective, since the start of 1980, the S&P has experienced 11 unique declines greater than 10%. Four evolved into full bear markets. This means roughly a third of the corrections got much worse and about two-thirds recovered. The average magnitude was -17% for corrections and -41% for bear markets. We think this represents an appropriate way to think about the current environment. There is a good chance things get worse, but there is a better chance of moving on to higher highs. As always, investors must assume risk to capture the long term growth benefits of stock ownership. The costliest mistakes come from emotional decisions to abandon a well-designed long term strategy due to short term factors.

As corrections go, this one has been small and sharp. That is encouraging. Steep, sudden drops can come for any reason and often recover as quickly as they came. The more dangerous scenario is a market that is slowly rolling over. We all remember the free-fall in October of 2008 when Lehman Brothers collapsed, but the market had already been in slow decline for over a year before it happened. The current global bull market has stalled out over the last year or so, but the longer term trend until this month was still upward sloping.

Strong Q2 GDP numbers released this week were encouraging. The market is reacting in large part to news out of China. But this is an indirect variable to what really matters – namely corporate profits in the US, Europe and Japan. Because most of China’s stock market is closed to foreign investors, it represents just a few percent of major global stock indexes followed by most US investors.

Stock volatility changed rapidly from unusually low to unusually high. Most likely the rest of the year will fall somewhere in the middle. All investors will have to get used to living with bigger daily changes than we’ve seen over most of the last few years.

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