Third Quarter Volatility?
Heading into the heart of the third quarter, we have been anticipating an increase in volatility, particularly as the Federal Reserve deliberates over monetary policy, and this week did not disappoint. On Monday, for example, the Dow Jones Industrial Average fell 700 points, its largest decline since October, only to rebound almost 800 points over the next two days. However, Monday’s weakness, was largely independent of any concerns around the Fed, and was likely attributed to a flare up in concerns around the Delta variant, as data from overseas, notably the United Kingdom, caused some investor angst and revived memories of lockdowns. For example, oil prices, a proxy for global economic activity that is particularly sensitive to lockdowns fell over 5%, its worst trading session since March 20, 2020. Financials, the second worst performing sector of 2020, behind energy, saw its worst day of trading on Monday since early January. Ultimately, however, the market seems to have realized that Monday’s response was probably an overreaction, because while rising coronavirus infection and hospitalization rates are increasing, non-pharmaceutical interventions, similar to the scope and scale of what we saw during the heart of the pandemic, are very unlikely.
While we continue to believe stocks have upside and have been encouraged by the second quarter earnings season that is on pace to see S&P 500 earnings growth rise well over 70% year-over-year, the most robust growth since Q4 2009, we believe Monday was a useful reminder that the second half of 2021 will likely be hallmarked by higher volatility. To be clear, investors continue to enjoy tailwinds from record monetary and fiscal policy but whispers of “peak growth” or “peak policy” have gotten louder and concerns around inflation and the Fed’s policy decisions will likely make market sessions similar to Monday more frequent. Therefore, with stock valuations above their historic averages, we believe portfolio risk management is becoming more important. As a result, while we are by no means bearish, we will be reaching out to clients around August and September to advocate trimming back equity allocations that have grown significantly overweight relative to long-term targets after the S&P 500’s roughly 90% rise off its March 2020 lows.
Ian G. Browning, CFA | Director, Investment Strategies & Shareholder
Peter E. Simmons, JD | President & CEO