Stock markets can be characterized as being both consistently positive and eerily quiet in recent months. Volatility and trading volumes continue to be extremely subdued, but stock indices just keep grinding higher. A few factoids to underscore these points -
According to Bloomberg contributor Ben Carlson:
* the S&P 500 Index has set a record by generating positive returns in each of the first 10 months of this year;
* the average absolute daily price change this year of the S&P 500 Index is just .31 percentage points, on pace to be the lowest such measure of volatility on record since 1965;
* the worst pullback from peak to trough in the S&P 500 Index so far this year is just 2.8 percent. By comparison, over the past 100 years, the average intra-year drawdown in our stock market has been around 16 percent.
And there are certainly plenty of reasons for stock investors around the world to be this comfortably optimistic:
(i) The Organization for Economic Cooperation and Development (OECD) reports that the economies of all of the 45 countries it tracks are on pace to grow this year, a rare occurrence in the past 50 years. The OECD also notes that global economic growth will rise this year to its highest point since 2011.
(ii) According to the World Trade Organization, global trade will increase 3.6% this year, up from its previous forecast of 2.4%. This despite geopolitical tensions and protectionist rhetoric.
Stock investors have had their share of good news here in the U.S. as well. Our economy grew by 3% in the third quarter and by more than that in the second quarter, the first time in 3 years it accomplished that level of back-to-back growth. This steady, if unspectacular, economic performance is being reflected in solid corporate sales and profit growth, and that in turn is supporting stock prices.
By the same token, however, there are plenty of reasons to be cautious about stock market performance going forward. Not least among these is that this stock bull market and accompanying economic expansion are both long in the tooth by historical standards. By many measures, stock market valuations are stretched as well.
And there is no shortage of potential catalysts for a pullback in stocks:
- Many central banks around the globe are either raising rates after a prolonged period of accommodation, and/or moving towards reducing their bloated balance sheets.
- Some Chinese authorities have recently joined outsiders in expressing concerns about the level and growth of debt, and about the stability of the shadow banking system, in that economy, the world's second largest.
- Concerns have also been raised about the incredible pace of migration by investors to exchange-traded funds (ETFs), and the related proliferation in the number of these products. In combination with trading activity on stock exchanges now being dominated by automated and high-frequency traders, the fear is that these developments raise the possibility for liquidity vacuums and "flash crashes".
And these worries of course stand in addition to the steady stream of geopolitical tensions, Twitter bombs, mass shootings, natural disasters, and terrorist attacks, that we seem to be increasingly exposed, and desensitized, to.
"We seem to be living in the riskiest moment of our lives, and yet the stock market seems to be napping. I admit to not understanding it."
--- Richard Thaler, behavioral economist and recent Nobel Prize winner
About the Author
Paul Winter, MBA, CFA, CFP® is a Fee-Only financial advisor and fiduciary in Salt Lake City, UT. His independent wealth management firm, Five Seasons Financial Planning, provides professional portfolio management and objective financial planning services to individuals and families, and to their related entities including trusts, estates, charitable organizations, and small businesses.