Conversation Guide: Corrections Check on Investor Emotions
Volatility returned to the stock market in a big way in the first quarter. In February, the S&P 500 Index experienced its first correction in more than two years. Then in March, the benchmark index gave back most of the subsequent rebound to end Q1 with its first quarterly loss since 2015.
For investors, the return of volatility in Q1 may have been an eye-opener, perhaps only because they had been lulled into complacency by the low-key market climate throughout 2017. Investors should remember that:
Corrections occur normally as part of a healthy market cycle
Unlike previous 10% drops, there was no single cause behind the correction during Q1
Business cycle fundamentals remain supportive of equity growth
Corrections check on investor emotions
Volatility returned to the stock market in a big way in the first quarter.
In February, the S&P 500 Index experienced its first correction in
more than two years. Then in March, the benchmark index gave back
most of the subsequent rebound to end Q1 with its first quarterly loss
since 2015.
For investors, the return of volatility in Q1 may have been an eyeopener,
perhaps only because they had been lulled into complacency
by the low-key market climate throughout 2017. Investors should
remember that volatility and corrections are typical in a healthy
market environment, and strong economic fundamentals should
continue to support the ongoing bull market for stocks.
Corrections occur normally as part of a healthy market cycle.
Market corrections (a drop in value of 10% or more from a recent peak) are neither unusual events nor
generally long-lasting.
– The correction in the S&P 500 during Q1 was the fourth 10% drop in the current bull market (going
back to March 2009).
– Since 1945, corrections have lasted four months on average and recovered in three months on average
(see chart below).
• Since 1946, the S&P 500 has averaged one correction (drop of ten to 20%) every 22 months; drops of five
to 10% have occurred on average every seven months.
• Unusual patterns in the stock market are extended periods of calm, such as the placid market
environment of 2017.
Unlike previous 10% drops, there was no single cause behind the correction during Q1.
• Inflation fears, faster Fed rate hikes, trade restrictions, tech stock troubles — all were cited as factors at
fault for the stock market’s decline during Q1.
– Previous corrections during the current bull market were sparked by singular events (e.g., April through
July 2010 — European sovereign debt crisis; April through October 2011 — U.S. debt downgrade; May
2015 through Feb 2016 — China currency devaluation).
• The lack of a single root cause behind February’s market correction is indicative of the high level of
emotion present among stock investors right now.
• The VIX Index—a barometer of stock market fear—averaged 11.0 for 2017, the lowest calendar-year average
since the VIX began in 1990
Business cycle fundamentals remain supportive of equity market growth.
Business conditions haven’t materially changed from 2017 — corporate earnings growth remains strong,
manufacturing growth continues to expand and consumer sentiment is still optimistic.
• Any negative consequences of tariffs and trade restrictions between the U.S. and its trading partners
would likely be negligible in their current form when compared to the bigger benefits of fiscal stimulus (see
chart below).
• The U.S. is still moving into the later stages of the economic cycle, where differences between “winners”
and “losers” may become more distinct.
– Equity returns going forward may be harder to achieve than they were in 2017, placing a greater value on
active approaches to stock investing.
Key takeaways
After a long spell of market calm in 2017, it would be no surprise for stocks to remain volatile for the foreseeable future. Volatility
is a normal and healthy part of the market cycle, and it can be helpful in reminding investors about the ever-present risks of stock
investing. Rather than focusing on daily ups and downs of the stock market, investors should pay more attention to business and
economic fundamentals, which remain supportive of the current bull market environment.
• Keep market volatility and one-day downturns in perspective: They are often natural and common during all phases of the
market cycle.
• Manage market risk with a diversified portfolio that aligns with your risk tolerance and your time horizon.
• Consider adding actively managed strategies to your investment mix to provide uncorrelated exposure to market indexes.
