It’s officially a correction. As we write this the S&P 500 is off more than 10% to start the year, while small cap and technology stocks are off even more.
Corrections are a healthy and normal feature of markets. They wash out excesses and keep things from getting overheated. Sometimes they persist and turn into bear markets, which are defined as a decline of 20% or more. Bear markets are not pleasant either, but they also happen from time to time.
Most stocks are in correction territory, and more than half of the Russell 3000 is already in a bear market. There are a variety of reasons for the market shift, but the most common narratives are inflation and the Fed tightening. Since the New Year there’s been a race to reset expectations for both these higher in 2022.
In response to the COVID-19 pandemic the Federal Government enacted several rounds of fiscal stimulus, while the Federal Reserve cut interest rates to 0% and engaged in quantitative easing, or “QE”. Following that, we saw a market recovery, but also pockets of speculation. Those areas of speculation included but were not limited to: “meme” stocks, SPACs, cryptocurrencies, and certain corners of the stock market. A year ago, many speculators were bragging about how easy things were and short sellers were taking it on the chin, today the bears are the ones taking victory laps.
A lot of the air has come out, and it has come out fast. Whether there is more to go, and how much more, we do not know. We have seen a lot of comparisons to the 2000 to 2002 period. Some of those comparisons are valid and, while there are similarities, we think the comparison is only valid up to a point.
It is easy to look at the 2000-2002 period remember that market environment as one period. In our view it was really two environments that happened to occur back-to-back. The first was the deflating of the Nasdaq bubble, the 18 months or so being very similar to what we have observed the last 6-9 months or so. What people forget is the Nasdaq bubble deflating did not cause a recession. There was a recession, but it was triggered by events of September 11th, 2001.
This is our way of observing that markets tend to overshoot in both directions, while overfitting and taking narratives too far. Soon we may reach a stage where bad news is received as good news because it puts the Fed on hold. However, when we get there remains to be seen, and it tends to happen sooner than people think. We observe that while some deceleration in the growth of the economy is to be expected, fundamentals overall still appear to be solid.
We believe the most appropriate investment approach is one you can stick with through good and bad times. If you have questions or wish to speak with us, please do not hesitate to reach out to us.