It’s too bad that February will not be remembered for the fact that all three major indices reached new record highs, nor will it be remembered for the better than expected jobs report announced early in the month. Unfortunately, it will likely be remembered for the recognition of the impact of the corona virus and the resulting correction on Wall Street. The complacency at which investors seemed to react just weeks earlier had turned into fear and panicked selling, ending in the fastest correction in history. With two over 1,000-point drops in just one week, the final tally of 3,583-point loss was the worst for a one-week period since the financial crisis in 2008. Money quickly fled to the safety of U.S. treasuries, sending bond yields to new record lows. Fears of the economic impact around the world also sent oil lower, adding to the declines already on the books for January and making energy the worst performing sector for both the month and the year. When the week finally ended on the final day of the month, the Dow had lost 10.07%, the S&P 500 was down 8.41% and the Nasdaq gave back 6.38%.
During any period of unusual activity in the markets it is often valuable to look back to similar events for insight into the longer-term impact of such events. Although every incident is unique and happens under different economic conditions, history can give us some point of reference. There have been other viruses in the past such as SARS and Ebola and this could also be compared to other shocks to the system such as 9/11 or Black Monday. The virus itself, is not what the financial markets are reacting to. The change of behavior that is caused by the fear of a widespread outbreak, is what the market is trying to price in. For every event that is cancelled, flight that is not taken, or day of work that is missed, it has a drag on economic activity. If this behavior was exclusive to one area of the world the impact would be negligible. However, as it breaches the borders of the major economies around the world, it becomes difficult to quantify the impact. Fear of the unknown can have a powerful effect on economies and therefore markets.
On October 19, 1987, the Dow Jones Industrial Average declined by 508 points, which at that time was equivalent to a 22% decline. It was the events of that day that led to protective measures being built into trading systems that we have today. Under current rules, if the market were to fall by 7%, trading would be hated for 15 minutes. If the decline continues and the market is down by 13%, trading would be halted again for 15 minutes. If the decline was to reach 20%, the markets would be closed for the balance of the trading day. Looking back at that event and the causes that were highlighted, it was interesting to see the following quote, “fear of higher interest rates, a five year bull market without a significant correction, and computerized trading that accelerated the selling and fed the frenzy among the human traders.” More recently with the December 2018 selloff, two of the causes cited were fear of higher interest rates and the acceleration of computerized trading. With this current bull market, now the longest in history, the age of this market alone has been a fear for the last several years. The markets in 1987 at least had “human traders,” in today’s markets it is estimated that about 70 percent of overall trading volume is generated through algorithmic trading. The important thing to remember looking back to 1987 is that it eventually led to one of the longest and strongest bull markets in history.
For anyone old enough to remember September 11, 2001, it is likely a moment frozen in time that you can remember where you were and what you were doing when the news of the first plane to hit the world trade center was announced. Once it was obvious that America was under attack, financial markets decided not to open on that Tuesday morning in order to avoid panic selling. Trading did not resume until the following Monday, which was the longest suspension of trading since 1933. When markets finally opened for trading, the Dow lost 684 points, the largest one-day point loss at that time or 7.1%. Markets continued their slide for a week as the economy seemingly came to a screeching halt. Airline and travel stocks got hurt most, oil prices fell from $23.77 a barrel in August 2001 to $15.95 in December 2001. The Federal reserve cut interest rates by a half point to 3% and the recession that had started earlier that year deepened. Financial markets returned to their September 10th levels by late October that year, amid the continued uncertainty of when life would return to normal again.
The debate for the markets will focus on if the markets have fallen enough or if they need to fall more before this is all over. The bulls will point to the economic data that still shows and economy that is resilient and that the added stimulus of lower interest rates and low energy prices will keep the economy on track. With interest rates making new lows again, consumers will get yet another chance to refinance their debt. Borrowers at every level from the Federal and Municipal governments, to large and small business owners will now have access to historically cheap capital. The bears will argue that lower rates don’t matter as people will not be willing to borrow to spend due to fear of a slowing economy. They will point to the cracks in the economy and some of the signs that things were slowing before the outbreak of the coronavirus. The trouble with real time data is that we will know much more a week or month from now and that will guide the markets in either direction in the short term.
In the background, we are just eight months away from an election. The dynamics of what the markets are predicting about the political landscape is changing just as quickly as the updates on the coronavirus. Presidential candidates now have an opportunity to express their opinion on how to handle the current situation and share their expertise on matters of this type. Michael Bloomberg has the resources to take a three-minute spot on prime-time television to update the American public on his view of the world. You can’t even tune into the Oscar awards, which were hosted earlier this month, without getting the political opinions from someone that you didn’t want to hear it from. It makes it difficult to find a break from the constant influence that the media has on our daily lives. The political noise is going to get more intense as we move through the next several months so remember to step back from the constant storm of information every now and then and take a deep breath.
Events of all different magnitude make their way through the financial markets all the time. Investors need to remember that these events are impossible to predict, are likely to create an overreaction in the short term and eventually life will return to normal. If you were properly invested prior to this, meaning you have adequate liquidity and exposure to multiple asset classes, there is no reason that you should be making changes to your investment strategy. If you are concerned about that, it is a good time to check in with your advisor to review your situation if you haven’t done so recently.