In my last several writings, I emphasized that, after the long tranquil up market in 2017, 2018 markets would display a great deal more volatility. No doubt I was correct on that call. Today’s increased volatility could be symbolic of a healthy correction in an ongoing economic up cycle. It also could be a prelude to something more sinister.
Measuring Today’s Volatility
Looking back at 2017, there was only one market session (December 1) in which the intraday move in the Dow Jones (the high point minus the low point) was 400 points. The VIX, an index that measures volatility, hit all-time lows many times last year. But, that all changed, beginning February 2nd.
The Dow peaked on January 26th at 26,616. At close of business on April 6th, it stood at 23,932, a loss of about 10%. In the 44 trading sessions from the opening volatility salvo, defined as a 2% intraday move (February 2nd), to the close of business on April 6th, 16 trading days have seen 2% or greater intraday Dow moves (35% of trading days). Seven of those were 3% or greater moves, four were 4% or more. (There was one 5% and one 6% intraday move.)
How should we view this step-up in volatility? Is it normal? How does it compare to past such periods?
The Last “Normal” Correction
Let’s go back to the last major correction, 2011. Between July 21 and August 8, the Dow fell about 15%. It was a short, hard core correction. And, like today, volatility ruled. The analysis begins on the first day in 2011 that there was a 2% intraday move (August 1, 2011), and counts forward 44 trading sessions to compare where we stand today (number of trading sessions) to the same point in the prior correction. Back then, 28 of those 44 trading sessions showed 2% intraday moves (vs. 16 currently), and 11 showed 3% intraday moves (vs. seven currently). There were seven 4% moves (vs. four) and three moves exceeded 5% (vs. two). From this perspective, then, it appears that the current correction is milder than that of 2011.
What may be of interest, however, is what happened in 2011 over the next two months of trading (October and November, 42 trading days). Volatility continued in October with nine trading days showing 2% or greater moves and three showing 3%. There were no 4% or greater moves. November showed similar volatility. Then, December returned to calm. What is interesting here is that the low point in the Dow occurred in August, but volatility continued through November.
If the current correction follows the same path as the 2011 correction, volatility will continue even after the lows have been put in. So, it appears that, at a minimum, we still have some period of nervousness ahead.
Prelude to Recession?
But, what if this isn’t just a normal correction in an upward moving economy? What if this is going to be more like the corrections associated with an oncoming recession. After all, we are in a slow growth economy, and the Fed is now tightening more aggressively than at anytime since the Great Recession. A policy mistake could be costly.
For comparative purposes, I went back and looked at the market’s behavior in that Great Recession. Intraday moves of 2% or more occurred 52 times between January 1st and August 31st of 2008 (169 sessions), or in 31% of the trading sessions. However, there were only ten 3% or greater moves and only two of those were larger than 3%. The high for the year was on January 2nd (13,056). At the end of August, the Dow was down to 11,543 (-11.6%). Call it a slow bleed. Today’s correction, while occurring in a much shorter time frame, is of about the same magnitude as that of the first eight months of 2008.
But, what happened to the market in the ensuing six months of the Great Recession is truly scary. Over the next 145 trading sessions, essentially September ‘08 through the end of March, ‘09, the intraday move was 2% or greater fully 85% of the time (i.e., large volatility was the rule, not the exception). Four percent moves occurred 38% of the time, and moves of 6% or greater almost 15% of the time. That volatility makes our current volatile market look like a walk in the park!
During this six month period, the Dow fell from 11,543 to 6,547 (-43%) on March 9 (for a total fall of 50% from the top on January 2, ‘08 to the bottom). Volatility did continue after the March low, but mainly to the upside and there were scarcely any days showing 3% intraday moves.
Is the volatility we are now experiencing just part of a “normal” correction, or is it a prelude to a recession like the January to August, 2008 period? We simply don’t know. But, given the length of this expansion, the fragility of the growth, and the fact that the Fed is tightening, it is probably a good idea to move investment portfolios toward conservative investment allocations.
Robert Barone, Ph.D.
Robert Barone, Ph.D. is a Georgetown educated economist. He is a financial advisor at Fieldstone Financial. www.FieldstoneFinancial.com .
He is nationally known for his writings and Robert’s storied career includes his having served as a Professor of Finance, a community bank CEO and a Director and Chairman of the Federal Home Loan Bank of San Francisco. Robert is currently a Director of CSAA Insurance Company (a AAA company) where he chairs the Finance and Investment Committee. Robert leads the investment governance program at Fieldstone Financial, is the head of Fieldstone Research www.FieldstoneResearch.com, and is co-portfolio manager of the Fieldstone UVA Unconstrained Medium-Term Fixed Income ETF (FFIU).
Statistics and other information have been compiled from various sources. The facts and information are believed to be accurate and credible, but there is no guarantee as to the complete accuracy of this information.