The recent global market selloff has pushed major equity indexes into correction territory, defined as a drop of 10% or greater from recent highs. We continue to believe global economic fundamentals are strong, even as markets appear to be repricing risk. Moments such as these can, in our view, demonstrate the merits of well-diversified portfolios.
We would point to three takeaways for investors as they eye the recent market activity:
- We continue to view the risk of a US recession as extremely low. The US economy expanded at a 2.3% rate in the second quarter. Full-year forecasts call for US economic growth of more than 2%.[1] Meanwhile, although there are signs of a slowdown in the Chinese economy and the broader emerging markets, data in Europe point to a modest acceleration in growth. When compared to headline events, we view these trends as the more significant factors, which should drive long-term market performance.
- The recent selloff is, in our view, a reaction to China’s market volatility and currency devaluation (amid struggles for emerging markets more generally), oil prices’ drop to multi-year lows, and worries of potential Federal Reserve (Fed) interest rate increases. Regarding potential rate increases, we believe recent events may make the Fed less likely to take action in the coming weeks. We believe that none of these factors are likely to derail the long-term global economic expansion. At the same time, market catalysts such as these are unlikely to disappear, which we believe underscores the importance of what we call “situational awareness” – the need to be risk-aware and strategically allocated.
- We believe investors should anticipate higher volatility, especially in equity markets – and that investors should be prepared to exercise patience. The S&P 500 had gone more than 1,300 days without a 10% correction, a streak that spanned nearly four years. We view recent events as a reminder that localized pressures can cascade into global markets in ways which have been rare during the last few years’ below-average volatility levels.
In our view, this month’s volatility is a reminder of the importance of several principles of portfolio construction: Diversified sources of return matter. While we believe selloffs may create stock-specific buying opportunities, an overreliance on equity markets may create vulnerabilities in volatile environments. Investors should, in our view, consider strategies which seek to limit downside exposure.
