Morgan Stanley
  • Wealth Management
  • Dec 10, 2018

Understanding Market Crosscurrents

Investor sentiment is veering between optimism and pessimism, creating extra volatility.

What a difference a week makes! Just days ago, investors seemed overly optimistic about the benefits of a subtle shift in Fed policy. Now they seem way too pessimistic about the potential for a slowdown in global economic growth.

Last week, the S&P 500 fell more than 4%, erasing gains from recent rebounds and returning to the lowest levels we’ve seen this year. Catalysts included China trade policy worries, lower oil, a flattening yield curve and weaker than expected job figures.

Investor worries aren’t going away soon. But recent events don’t portend the kind of market downturn investors seem to fear. Below are five reasons why I think investors are too pessimistic at this point in time:

Global growth may be about to turn up. Believe it or not, there are signs of stabilization in emerging markets and China. Manufacturing is actually turning up overseas and in the U.S. Recent consumer spending figures suggest a strong holiday season. Global growth has been slowing, but the economy is still a long way from dipping into recession.

Falling oil prices don’t seem a result of slowing growth. As I wrote recently, oil is falling mainly due to a surge in supply, not a major drop in demand. I expect the economic interests of major oil producing countries to eventually lead to production cuts that stabilize prices.

Inverted yield curves are very early warning signs. This indicator, based on the Treasury market (where yields on short-term rates are higher than longer term rates), is considered a fairly reliable indicator of recession. But I would note that it is a very early warning sign, which tends to precede recessions by about a year and a half. 

Corporate fundamentals have little to do with the declines in stocks. While I expect earnings estimates to come down in 2019, they haven’t yet.  A recalibration may be in order, but that’s not what we’re seeing now.

Gold (the ultimate fear gauge), is not rallying. The fact that other asset classes, like gold, are not responding to the downturn suggests to me that we are not at a major inflection point. Gold is up only a dollar per ounce over the last month.

I don’t believe this is a time for investors to panic and sell. Nor do I think it is a good time to jump in and buy. We may well see lower lows and higher highs. Instead, I continue to believe that investors who are patient now will eventually be rewarded.