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Can the Past Predict the Future?

March 12th, 2019 by Joe Mallen


Earlier this year, I wrote about the three primary factors that were driving the markets at the outset of 2019. Those factors carried over from the fourth quarter of 2018, and while they are still playing a role in today’s environment, their impact is lessening and making way for stronger markets. Tensions surrounding the geopolitical picture have subsided, as Americans become more accustomed to headline grabs. Further, the U.S./China trade conflict is seeming to ease and more investors feel the situation is on track for a resolution.

But the biggest impact is being felt from changes from the Federal Reserve. The Fed’s 2019 rate outlook had investors worried, but that uncertainty is lessening as it’s becoming increasingly likely that rates won’t go up this year. The Fed’s revised course has made the biggest impact on the markets, forcing valuations to come in line with the historical norm and prompting the markets to rally throughout February. Notably, the 40-day period from December 24, 2018, through February 22, 2019, yielded the best 40-day return since 2009.

A markets history lesson

While uncertainty abounds in the markets, there are signs of strength emerging - a scenario we predicted would happen thanks to our analysis of historical data and trends. Historical data can be incredibly telling of what investors can anticipate moving forward, but the historical trends are often overlooked amid knee-jerk reactions and emotionally-driven decisions. What it boils down to is the fundamental value of stocks and how the company will grow in value over time - a concept learned in every college campus’ Finance 101 class. The markets move around, and they always will, but absent of any real impairment to the growth of the U.S. economy - namely a recession - the experienced volatility and market pull-backs tend to be short-lived.

Historical market movers

Several market events in recent memory come to mind when considering how the past influences the present. The following events shaped how we look at the markets today:

  1. The financial crisis of 2008-2009. It’s impossible to talk about recent market history without pointing to the crisis that occurred in 2008 and 2009. The markets had just recovered from the dot-com crash of 2000 when the ‘08 recession hit, leading to a prolonged recessionary period. Data confirmed a fundamental contraction and prospects for future company valuations were bleak. Global markets sold off considerably and took several years to recover.
  2. The debt downgrade of 2011. In August 2011, U.S. debt was downgraded and the markets sold off quickly, while investors worried about the sovereign debt crisis emerging in Europe. However, the overall growth didn’t slow, and the markets rallied back quickly.
  3. Sweeping volatility in 2015-2016. The most recent event of impact was the volatility experienced in 2015 and 2016, which was led by a sharp sell-off in Chinese stocks. At the same time, Greece defaulted on its debt, while the Federal Reserve initiated the end of quantitative easing. There was concern that an influx of capital would drive the markets down. However, there was no recession and markets came back quickly.

Lessons learned

In all of these cases, the market swings prompted a very emotional reaction among investors. Emotionally-driven investment decisions can be devastating to investor portfolios - more so than any Wall Street volatility. Take, for instance, the August 2011 debt downgrade. At the time, the value of stocks and bonds hadn’t changed but a rating company offered its insight on an arbitrary rating, inciting panic among investors. Behavioral-based sell-offs are common occurrences in the markets and someone who reacted to these or other market moving events likely lost a lot of money.

The bottom line: Regardless of what is prompting market volatility, investors need to remain defensive in their reaction, avoiding an emotional response. At Helios, we take the emotion out of investing by using quantitative analysis that relies on the hard data - not the day’s headlines - to drive decisions.

 

Posted in the category Articles.

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