The more markets move up and down, the harder it can be to hold firm in your investment strategy. But there are good reasons to do just that. Below are three thoughts on recent volatility, along with three action items for investor portfolios.
Market insight amid volatility
1. Corrections are common
They can even be healthy, restoring a level of value (and opportunity) to frothy markets. The S&P 500 in January skirted an official correction (defined as a drawdown of 10%) but recorded its worst month since the start of the COVID-19 pandemic in March 2020. Our research finds that drawdowns of 5% or more are not uncommon: Since 2000, we’ve had 15, with nine of them greater than the January 2022 episode. BlackRock Fundamental Equities investors are culling through their wish lists of favored stocks to identify opportunities to add to those they believe have been unduly punished.
2. Fundamentals are strong
The volatility of late has little to nothing to do with underlying stock market fundamentals, in our view. Individual and corporate finances are in solid shape, as we discuss in our recent market outlook. Fourth-quarter earnings are coming in strong. Through January, 78% of the 172 S&P 500 firms reporting had delivered a positive earnings-per-share surprise. Recent market angst is all about rates and inflation. This suggests volatility is likely to persist as the Fed takes the necessary steps to pull back the “easy money” policies put in place early in the pandemic. But strong market underpinnings mean a solid foundation to fall back on once the dust settles.
3. Stocks look even better now versus bonds
The equity risk premium (ERP), which calculates the relative risk/reward in stocks versus bonds, has been attractive for the better part of the past two decades as bond yields hovered around historic lows. In the recent market decline, the equity earnings yield rose more than the 10-year Treasury yield, enhancing the equation. (See chart below.) By our calculations, the 10-year Treasury yield would have to rise to slightly over 3% before stocks lose their luster versus bonds. In a low-rate, high-inflation environment where real (after-inflation) yields on government bonds are negative, equities still shine.