October recap: Gains washed away in a sea of volatility

Mike Loewengart, Vice President of Investment Strategy

E*TRADE Capital Management

11/01/18

Trivia question: When did the largest one-day point loss in the history of the Dow Jones Industrial Average occur? Answer: Just this year on February 5. How about the second largest? Also this year. Third largest? Same answer. You get the point. In fact, through the third quarter alone, the Dow Industrials tumbled by more than 500 points five separate times. And, yet, the blue-chip index gained nearly 7% during that time—a healthy clip by most any measure.

So, when the markets again stumbled in early October, it seemed easy to shrug off the decline. After all, economic growth rates are robust, unemployment is low, and occasional bouts of volatility didn’t stop the major indexes from climbing to all-time highs in September. Moreover, October is traditionally a scary month for investors. Just another frightful fortnight in the pumpkin patch, right?

Maybe not. This time around, sustained market volatility appears to be more than just the ghouls of October at work. From the market’s highs on September 20 through October 31, both the Dow Jones Industrial Average and the S&P 500® Index have retreated within range of a 10% correction. 

US equity performance, October 2018

Source: FactSet Research Systems, November 1, 2018

US equities  

Equity headwinds, including tariffs, rising interest rates, and political uncertainty, created a downdraft of volatility in October. Although tech stocks took it on the chin, information technology is still up more than 9% on the year, underscoring just how lofty valuations within the sector have become.

Financials were hit hard by a softening housing market, with building and construction ETFs performing especially poorly in October. Despite rising interest rates, which typically expand banking profit margins, financials are now among the worst-performing sectors year-to-date, eclipsed closely by materials. Conversely, consumer staples and utilities—both defensive sectors—gained modest ground in October.

Sector performance, September 2018

Source: FactSet Research Systems, November 1, 2018

International equities  

International equities didn’t fare much better in October, although Latin American stocks experienced a remarkable resurgence. Somewhat counterintuitively, markets appeared to react favorably to the election of a hard-line authoritarian, Jair Bolsonaro, as Brazil’s new president—perhaps because investors welcome any change in Brazil after years of economic stagnation.

In Europe and Asia, stocks sold off on many of the same concerns that afflicted US markets, including rising trade barriers and concerns about global economic growth. In China, economic sentiment continued to weaken due in no small part to the trade war being waged by the Trump administration.

International equity performance

Source: FactSet Research Systems, November 1, 2018

Fixed income

High-quality bonds provided much-needed ballast to diversified portfolios in October. With investors seeking a haven from equity market volatlity, demand for US Treasuries spiked and yield spreads widened. The yield on the benchmark 10-year Treasury note, which had climbed as high as 3.23% on October 8, fell to 3.15% by month-end. Municipal bonds, which were strong performers earlier in the year, saw returns decline for the second consecutive month.

Fixed income performance

Source: FactSet Research Systems, November 1, 2018

Looking ahead

As we head into the holiday season investors have a lot to digest, and although antacids may seem to be in order, we believe there are a number of themes that could make current market turbulence easier to stomach.

•  Midterm elections: Midterm elections have a long history of fueling market volatility, but they have historically preceded market rallies. Once the political dust settles on November 7, months of uncertainty that have rattled investors will finally be history, regardless of the political makeup of Congress.

•  Fixed income exposure: Over the past month, bonds have again proven their value as a portfolio stabilizer. If equity market volatility continues to escalate, fixed income allocations could help cushion the blow by making portfolios less vulnerable to unpredictable market swings.

•  Corporate earnings: Third-quarter earnings season is in full gear, and already we have seen a number of high-profile earnings misses and downward guidance revisions. To what extent market participants focus on earnings disappointments could make the difference between a market setback and a full-scale correction.

While investors are still grappling with many unknowns, it’s hard to argue against a backdrop of 3.7% unemployment, GDP growth rates in the 3% to 4% range, and measured inflation. There is likely still steam left in the economy, which is why the Federal Reserve remains in tightening mode. For investors, staying diversified and adhering to long-term financial goals remains an effective way to weather any volatility we could see over the duration of 2018.

Thanks for reading, and we’ll talk to you again next month.

Mike Loewengart

Vice President, Investment Strategy

E*TRADE Capital Management, LLC

 

Additional contributor:

Andrew Cohen, CFA

Director, Investment Strategy

E*TRADE Capital Management, LLC

Mike Loewengart is the Vice President of Investment Strategy for E*TRADE Capital Management, LLC. Mike is responsible for the asset allocation and investment vehicle selections used in E*TRADE’s advisory platforms. Prior to joining E*TRADE in 2007, Mike was the Director of Investment Management for a large multinational asset management company, where he oversaw corporate pension plan assets. Early in his career, Mike was a research analyst focusing on investment manager due diligence for the consulting divisions of several high-profile investment firms. Mike holds series 7, 24, and 66 designations, as well as the Chartered Alternative Investment Analyst (CAIA) designation. He is a graduate of Middlebury College with a degree in economics.

Andrew Cohen is a Director of Investment Strategy for E*TRADE Capital Management, LLC. Prior to joining E*TRADE, Andrew was the Director of Investments and Operations for a large Registered Investment Advisor, where his responsibilities included investment manager research, asset allocation, and portfolio construction. Previously, he was a Senior Research Analyst and Team Leader for a leading wealth management platform. He is a CFA® charterholder and a member of both the New York Society of Security Analysts and CFA Institute. He is a graduate of Virginia Tech with a BS in finance.

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