Expert: Heightened Market Volatility Merits Review Whether or Not Near-Term Technicals Reflect Longer-Term Fundamentals

The financial markets have struggled in the new year. A variety of concerns, including the rapid spread of the Omicron variant, surging inflation, policy tightening, geopolitical tensions and extended valuations, have all contributed to the volatility. Few asset classes have been spared, as investors around the world reassess asset prices in an environment of cyclical recovery and rising interest rates.

Considering the rapid rise in risk assets since the spring of 2020, it should come as no surprise that asset prices are being tested. Indeed, the S&P 500® Index achieved 70 records last year, with barely a pullback exceeding 5.0%. Mountain climbers that don’t take advantage of base camps on the ascent can attest to the difficulty of the return trip!

Of course, corrections are a normal part of the investment cycle. The extreme policy accommodation over the past two years has limited their occurrence, but the longer-duration, low margin, and speculative investment vehicles have all taken it on the chin in recent weeks. To be sure, classic corrections, as defined by a pullback of – 10.0% from a recent high, have taken place in the Nasdaq Composite as well as the Russell 2000 Index of small cap stocks.

Several sectors of the S&P 500® have also entered correction territory, including Consumer Discretionary, Telecommunication Services, and Information Technology.

Moreover, weakness at the constituent level has been quietly growing. For example, before the Nasdaq 100 slipped into correction last Thursday, the average stock in the group had already declined by 22.0% from its recent high.

Though the S&P 500® has not yet slipped into correction territory, the Index is down 8.0% from its recent high and the average stock is down 16.0% from its 52-week crest. Since a correction has largely occurred at the constituent level, perhaps it is time for the Index to “catch up.”

While market weakness pervades, we believe a deeper look into the charts can be instructive to help investors determine whether current trends suggest a more pervasive problem exists, or if the bottoming process has begun. We suspect the latter is true.

John Lynch is Chief Investment Officer for Comerica Wealth Management.