Yesterday morning, after stocks had posted big gains the day before and at a time when the major indices looked like opening pretty flat, I wrote that the market had rallied on Jay Powell’s words but had not reacted to what would be his actions, and that I expected stocks to head lower. What I didn’t expect was that it would happen so soon, and so drastically. As yesterday wore on, those indices recorded their biggest one-day losses since 2020. We could go lower still, but it is important that at times like this that long-term investors retain some perspective and remember a few things.
First, as dramatic as yesterday’s selloff was, it really just brought us back to where we closed last Friday. That is volatility, for sure, but not really a disaster. The more pessimistic view would be that the drop also took, say, QQQ back to where it was a year ago, wiping out a full twelve months of profits, but that too is about volatility in both directions, albeit on a longer-term scale. When QQQ hit its high on November 19 last year, it represented a 40.88% gain from the close on November 18, 2020.
After soaring like that, a retracement of some sort was just about inevitable, no matter what. However, as the 2-year chart below shows, even after what seems like such a terrible day, the index ETF is still more than 45% higher than it was two years ago. Lest you dismiss that as an aberration due to the Covid drop, it is more than 67% higher than it was three years ago.
It should also be pointed out that this is not a generalized selloff based on a systemic problem, but rather a reaction to a specific set of circumstances. Some sectors, most notably energy, are still showing big one-year gains because this is about inflation and the Fed’s response to it, not widespread problems among America’s businesses or a collapse in consumer activity. Higher interest rates and a reversal of QE will hurt for a while, but it is medicine that markets must take after an expended period of extremely loose monetary policy.
While the prospect of rate hikes and asset sales from the central bank have taken some of the frothiness out of the market, they haven’t harmed the underlying economy too much, at least not yet. GDP fell in Q1 as Omicron slowed the recovery but other data, including this morning’s jobs report, are still indicating economic strength overall. The question going forward is whether that strength will be enough to cushion the blow, and the indications as of now are that it will.
As I said, GDP contracted in Q1, but that didn’t have a massive impact on corporate profits, from which stocks are ultimately priced. As of the end of last week, S&P 500 earnings were showing an average 7.1% gain and, as John Butters points out in his most recent blog post for FactSet Insight, that would be over 10% if just one company, Amazon (AMZN), were excluded. Again, that points to a specific set of problems, not the kind of generalized crisis that results in a true market collapse, massive unemployment, and a serious recession a la 2008.
The point here is not that everyone should be rushing out to buy, nor sell everything in a panic. Moves like yesterday’s are worrying, but when looked at in the context of such strong performance from stocks over the last three years, at a time when the pandemic hit the economy so hard, they are not really abnormal. If you have ridden this out to this point, and yesterday’s collapse has you worried, keep that in mind, look at things from a longer-term perspective, and know that this, too, shall pass.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.