The Return of Volatility

George Hosfield, CFA, is Ferguson Wellman’s chief investment officer and chairs the firm's Investment Policy Committee. 


After months of low market volatility, equity markets swung wildly last Thursday as the Dow Jones Industrial Average plunged as much as 998 points (9.2 percent), before paring its drop to 347 points by the close. Given the speed and the magnitude of the drop, it was clear that the price movement was not normal. Despite persistent rumors of trading error, we may never know what errors…(if any)…were behind this volatility. However, we do know this occurred against a backdrop of mounting global uncertainty. 




Is this 2008 all over again?

NO. The underlying fundamentals behind this rapid decline are exactly the opposite. Rather than an economy in decline; today, the economy and corporate earnings are improving and gaining momentum. The most recent illustration of this point was Friday's April payroll data that revealed that employment in the U.S. jumped by 290,000 jobs last month…the most in four years. Similar improvements have been seen recently in leading indicators such as the Purchasing Managers’ Index (PMI) and the Consumer Confidence Index. In short, heading into this correction, growth data in the U.S. and in many parts of the world have been accelerating, thus providing a powerful force to counter the headwinds from the problems in Europe. 


Where do equity prices go from here?

Virtually without pause, the equity markets have climbed for the past 14 months without a material correction. We believe we are experiencing an overdue correction in what remains a bull market. Dramatic market declines have a mixed history of reversing quickly. Though never pleasant or easy to predict, corrections are not unusually and are at times necessary in order to consolidate gains before ultimately moving ahead.



How significant is the situation in Greece?

Comparatively speaking, Greece is a very small country. However, the prospect of its debt crisis being a preview of “coming attractions” from the likes of Portugal, Spain and others is a material, and legitimate concern. In the short term, the International Monetary Fund (IMF) and the European Union (EU) have no choice but to bailout Greece. In order to stabilize the situation the EU must also engage in “quantitative easing,” which is the purchase of the sovereign debt of other troubled nations. The capital markets need to know that the EU is firmly committed to doing whatever is necessary to stop this contagion. Unfortunately, up to this point their policy response has been slow and underwhelming. Longer term, this may very well mark the end of the EU as we now know it as ultimately it may be divided into a northern and southern region, with multiple currencies. 


Do current events warrant any tactical portfolio changes?

Yes. Though we have been underweight Europe relative to the Morgan Stanley Composite Index for Europe, Australiasia and the Far East (MSCI EAFE) benchmark for more than a year, at this juncture we are also modestly reducing our overall commitment to international equities to what we refer to as a “neutral” allocation. Bottom line, the turnaround in Europe will take longer than many investors currently expect and most certainly will be achieved through further devaluation of the Euro. In the short run, this will continue to make the dollar a comparatively safe haven. As such, our allocation strategy remains overweight U.S. equities and emerging markets. Going forward, we continue to look for an opportune time to initiate a position in “tactical assets” as a hedge against mounting monetary disorder. 

The information provided herein is for educational purposes only and should not be construed as investment advice or as an offer or solicitation. Not all securities are suitable investments for all investors; therefore, Ferguson Wellman Capital Management will not necessarily implement any particular strategies discussed herein for all clients. We recommend that you discuss questions regarding your individual portfolio and investment strategies with your portfolio manager.