Two thoughts on current markets

October 19, 2018

Scholars of this newsletter, of which there are fortunately none, would note that I rarely comment on current market movements. This fine Friday I want to make an exception because people have been sending in good questions and there are two unusual things happening, one short-term and one long-term.

You may have noticed the markets have gotten more volatile in the past several weeks. This got market prognosticators excited and they've emerged with all types of theories, some shiny and new, some old or new but not-so-shiny. I'm nonplussed by the movements. Markets go up and down. So do toilet seats. It's not that interesting, and this is arguably more normal than the past few years.

What is impressive is that among over 300 clients of One Day In July, no one panicked. Some excellent questions came in, but overall people were rational, realizing markets move both ways. I am proud of this. And I want to mention that this gives us a *huge* tailwind as investors, because we do not have the short-term thinking limitations that destroy the returns of many investors, both novice and professional. It is hard to overstate how big an advantage this is to all of us.

In the past few weeks asset classes have moved together, and in this case, the movement has been lower. This has happened three times in the past twenty years, and you have to step back and ask why diversification isn't functioning.¹

First, this is a rare occurrence. And second, just because everything is moving in the same direction, doesn't mean it's moving at the same rate. Treasury bonds shorter in yield moved down more slowly than emerging markets or the S&P 500.

A mixture of forces came together here. Likely investors decided that the longest bull market in history may need a bit of reconsideration, and at the same time nervousness about interest rate increases from the Federal Reserve made the bond market fall.

Keep in mind that a few weeks or even a few months is an extremely short time period in finance.

There is a longer-term market effect going on that I want to point out. I've discussed this chart with a few clients in the past two weeks, and it keeps giving me the warm fuzzies, so I want to send it to everyone. Click here:

Star Capital Value Premium

Since the Great Depression, growth stocks (those like Amazon or Netflix) have not outperformed value stocks (such as Sanderson Farms, Iamgold, or Stanley Black & Decker) by as wide a margin as they have over the past eight years. In fact, in almost all periods, it has been the reverse. Look at the graph in the top left of the document linked above - those blue spikes are all years when value outperformed growth.

Recently this effect has flatlined. There are valid arguments that the past decade is the new normal, and for that reason we don't bet one way or the other, we assume exposure to both. But the historical implication is that in the decade going forward, value is going to win. We'll see.

Dan Cunningham

1. Bloomberg 10-10-2018 For those who are interested, this paper from the Reserve Bank of Australia spans much longer time periods and covers the issue more in depth.