To say that 2018 was a difficult year for the market would be a gross misappropriation. For U.S. Stocks, 2018 will go down as one of the most volatile years in stock market history, but amid the volatility were eight months of some of the best market conditions to date. According to a survey conducted by the Conference Board, a business research organization, consumer confidence reached its highest level since November 2000 at several points over the course of the last year. Typically September has always been a sour month for stocks, as some of us remember with a particularly awful September back in 2008, but this year’s autumnal month saw the Dow up nearly 600 points, a more than 2% boost, with several other indexes following suit at the time.
In early October, the price of crude oil rallied to a four-and-a-half year high, as the global benchmark, Brent Crude, hit $86.74 per barrel. Overall, the oil market’s volatility, this past year, could be attributed to attempts from several members of the Organization of Petroleum Exporting Countries’ (OPEC) to be the authoritative voices for the international crude market; America, Russia, and Saudi Arabia.
Over the course of the last year, especially after Trump’s Iranian oil sanctions, America because of the world’s number-one producer of crude. According to recent reports, American oil output in August was 23% above the level twelve months earlier, and with greater inventory comes lesser demand from consumers, and cheaper prices overall.
Having said that, the market had its fair share of difficulties in the last twelve months.
Several major US indexes are on the verge of entering a bear market, which, if market analyst fears come to fruition, would effectively end the longest bull market on record. With the fate of the US economy seemingly in free-fall, we thought now, more than ever, would be an appropriate time to review the trends, changes, and other motivating factors that took place over the course of the last year, ultimately resulting in the predicament currently facing the market.
As any analyst or investor knows, there is no definitive method to pinpoint how or why the market trends up or down at any given moment in time. To have knowledge of these patterns is to either be a character from “Wolf of Wall Street” or an individual privy to the intricacies of time travel. However, there are several factors that likely have contributed to main markets being on the verge of bear territory.
Don’t Blame The Economy
While it would be a cakewalk to lambast the economy for the current state of the market, or even drag the current sitting president’s name through the mud, but the fact of the matter is the U.S. economy is fairing quite well as of recent. According to recent statistics, the employment rate in the United States currently sits at 60.60 percent for the month of November. Alternatively, unemployment rates are the lowest they’ve been in, year-over-year, in several decades. Generally, US economic output is growing as well, with nascent industries like the cannabis industry gaining tread following the recent legalization of hemp via the farm bill.
Bull vs. Bear
For those of us less knowledgeable about market jargon such as “bear territory,” or “bear market,” allow me to briefly explain. The term “bear market” is used on Wall Street when long-lasting declines in stock markets occur. In terms of what’s actually taking place from a fiscal point-of-view, a bear market represents a 20 percent or more drop from a recent peak. In recent news, the S&P 500 index, the most valuable stock market index in the country with holdings which include most large-cap companies like Microsoft (MSFT), Apple (AAPL), Amazon (AMZN), dropped 20 percent from its 52-week high earlier this week. However, the S&P 500 is not the only major index currently touting bear market tendencies. Earlier this month, the Dow Jones Industrial Average closed Monday down 7.6%, resulting in investors terrified for the market to have its worst December since the Great Depression.
Attitude Is Everything
If we are creatures of habit as well as individuals with the ability to use past experiences to inform our present and guide us into the future, we need to recognize that bear markets take time to overcome. According to an analysis by Goldman Sachs and CNBC, since World War II, bear markets on average have fallen 30.4% and have lasted 13 months. Once a market has entered bear territory, statistics show that it has taken an average of 21.9 months to recover. With all this news of sell-offs and index volatility driving even the sanest of investors stark-raving mad, its easy to lose sight of the future, but pessimism is a key component of bear markets. When investors are blinded by Fed rate hikes and continually intensifying trade conversations with China, main markets will see more sell-offs, and large-cap companies will suffer.
“China has recognized they’re a little more vulnerable in this trade negotiation with the U.S. because they have more at stake than the US does, from a bilateral stance. I think there will be a resolution, but it’s going to be a rocky path, which to me means a lot more volatility both up and down.”
-David Campbell, principal at BOS
The Case For Small Cap
While most large-cap companies are in total free fall as the market continues to fluctuate with uncertainty, opportunities still exist to make profitable gains despite the current state of the market. I posit that investing in small-cap companies not only offers a shelter from the storm but also presents a plausible means for safely investing in a bear market. From a fairly simple standpoint, smaller companies are more malleable in growing economies compared to larger companies because the fate of their revenue is not directly correlated to interest rates and other related economic factors. In addition to the navigable ease of a small cap company, if, and when the company decides to offer new products and services, all related processes to take these ideas to market are significantly easier with smaller companies, i.e. fewer board members to convince.
In terms of raising capital for operational costs, small-cap companies obtain a majority of their funding from series’ of investments, rather than borrowing company via issuing of bonds like larger companies typically do.
“When you come out of a recession, typically small-cap stocks do well, as they are more levered to economic growth than large-cap stocks”
–David Chalupnik, head of mid- and large-cap growth equities at Nuveen Asset Management
Historically, in 2016, when the Fed hiked up interest rates, small-cap stocks gained 22%, compared to the S&P 500’s 12% uptick at the time. Ultimately, no one can predict how the stock market will fair, but small-cap stocks seem to handle market downswings better than larger companies in the space.