Stock Market Volatility — Did You Know?

Join Chris Perras for the 7/10/2020 edition of Stock Talk!

Chris: Good morning. I’m Chris Perras, chief investment officer at Oak Harvest Financial Group in Houston, Texas. Welcome to our weekly Stock Talk podcast: Keeping You Connected to your money. It’s July 10th. This Stock Talk podcast is entitled “Stock Market Volatility: Did you Know?” First off, the S&P 500 sits this morning at around 3,150. The S&P is now down about 2 1/2% year to date. The Nasdaq Composite, which is largely technology stocks and biotech stocks, is up almost 17% year to date and has been making new all-time highs almost every day. This is because investors have raced to buy growth at any price stocks, which have the fastest revenue and earnings growth, as the coronavirus has caused an economic slowdown and has caused interest rates to drop materially over the last four months. I’m going to skip the play-by-play this week on the status of the virus and the economy and focus on something I’ve discovered midweek doing a little bit of primary research.

My questions to listeners is this, for the past two years, post the Trump tax plan being passed in early 2018, which stock market has been more volatile? Has it been the S&P 500, which is mainly large, established, US domiciled companies, or has it been the Chinese stock market, which is classified as an emerging market? The data might surprise you. Not only has our S&P 500 been more volatile, and clients can go ahead and log in to our web portal and see the accompanying charts and graphs, it’s been more volatile by a factor of two times. Yes, the S&P 500 has been over 100% more volatile than the much maligned Chinese stock markets since the Trump tax plan was passed. Just to put this increase in S&P 500 volatility in perspective, from early July 2016, which is almost an identical time period in front of the 2016 election as we are right now, through January 2018, when the Trump tax plan was passed, the S&P 500 was almost half as volatile as the Chinese stock market. Clients can see this chart, too, by logging on to the portal.

Listeners, ponder those time frames and statistics for a minute. Ask yourself, why in the world would our domestic stock market be over two times as volatile as the China stock market from 2018 through now? For almost two and a half years, China has been half as volatile as the US. Why? That time period includes a year of accelerating growth in the US and decelerating growth in China. It includes the positive impact of the Trump tax plan on corporate earnings in 2018. It includes tariff and trade negotiations that waxed and waned between the US and China, which largely seemed to have gone the United States’ way, and yes, it included the early virus outbreak which started in China first in the first quarter of this year and has led to an outbreak here in the United States in the second quarter. Looking at the charts and looking at the graphs, what does one find? You find, regardless of the time period the past two and a half years, the US stock market has been twice as volatile as China. Why? Why has this happened? My belief, there is largely one reason for this. The reason for this is ever since the tax plan was passed, the current administration has been almost solely focused on disrupting old allies and trading partners’ relationships. Whether it has been through face-to-face negotiations or late Thursday and Friday afternoon tweeting by the president, the policies out of the White House have generally been those that have lacked a unifying strategy.

While I wholeheartedly agree with our president on our over-reliance on China and their technology theft, the lack of a unifying strategy or plan on addressing these issues has caused massive disruptions within supply chains, strategic planning, and investment for most of the companies outside of the technology industry that are included in the S&P 500. I bring this point up now because lately there is increased talk about what a Joe Biden presidency, what a win in November, might do to stock markets. This talk is only going to increase over the next four months up to and through the election. The main talk seems to be how he is likely to raise tax rates back to pre-Trump tax levels and that this would be a burden on stocks.

Listeners, I can’t deny that this would most likely hit earnings on the S&P 500 about 5% to 10%. However, I believe that there would likely be a little-discussed, yet major offset to most, if not all, of this drag on earnings in the stock market. What is that offset? Listeners, the offset is this, under a Biden presidency, which I’m not saying I’m in favor of, don’t get me wrong, but under a Joe Biden presidency, volatility in the S&P 500 is likely to decline versus its current level of 30 plus. A decline in stock volatility from its current elevated level of 30 to a low level of 12 to 15, which has been historically normal during federal reserve interest rate easing cycles, that volatility decline equates to 15% to 18% upside in the S&P without a change in earnings, without a change in the multiple. Just the volatility decline gets you 15% to 18% upside in the S&P 500. Yes, listeners, I believe that most, if not all, of the negative knock-on effects of lower earnings caused by the tax increases, would be offset by calmer markets. I could see a new administration reverting to more traditional negotiating strategies or traditional information dissemination paths, less bulling of the federal reserve and other allies, and generally, adopting a more cohesive policy which the markets would most likely love. They’d like the cohesion of the policy, not necessarily the policy itself, but it’s a plan, and a plan they can invest around.

Listeners, don’t get me wrong, investors would clearly not like policies out of Washington, DC that hurt earnings, that impede growth, or that increase cost by way of increased regulations. However, as much as the markets desire higher growth, lower costs, and less government friction, time and time again, US companies have proven themselves resilient over time to work with, workaround, and adapt to new rules regardless of what those rules are. All markets need and crave is a set of rules that they do not expect to change materially over time. What time frame is that? I don’t know, my guess is it’s three to five years at least, but the longer the better. What I know for certain is that the time frame is longer than any policy change by way of a Thursday or Friday afternoon tweet.

I wanted to start addressing our thoughts on the election cycle early. Knowing what’s likely coming on your network news channels on a daily basis throughout the rest of the year, I felt obligated to start to address what might be offset to what is likely to be dire warnings, which our current president is already tweeting about almost weekly, as well as many financial news network experts, on what a Biden presidency would mean for stocks. It would not be the end of the world. It would not be the end of capitalism. It would not be the end of the economy or the stock market, either. Listeners, in July of 2016, yes, almost exactly four years ago today, I couldn’t find anyone to listen to me when I tried to convince people that the 2016 election would have a little effect on stocks and that regardless of who won, the S&P 500 would likely reach 2,800 by the end of 2017. Back then it was just math. It turns out that back then the math was off by only 3%, as the Trump tax plan, which of course was unknown at that time, took the markets about 3% higher than the math was saying.

The upcoming election will likely keep volatility high through October. Is this unusual? No. It’s normal that the third quarter is the quarter with the highest volatility of the year. However, as we’ve stressed for two years, high volatility should be thought of as the land of opportunity and the yellow brick road for long-term investors. It shouldn’t be thought of as the duck and cover or shelter-in-place environment that most investors tend to gravitate to or implement when volatility is high.

At Oak Harvest, we are comprehensive long-term financial planners. What this means is that, as our client, you and your financial advisor should have a financial plan that is independent of the volatility of the stock markets. Give us a call at 281-822-1350. We are here to help you plan your financial future and help smooth your path into and through your retirement years with a customized retirement planning. Many blessings, stay safe, mask up. This is Chris Perras at Oak Harvest.

Announcer: The preceding content expresses the views of the speaker and is for informational purposes only. It is based on information believed to be reliable when created, but any cited data, statistics and sources are not guaranteed. Content ideas and strategies discussed may not be right for your personal situation, and should not be considered as personalized investment, tax or legal advice, or an offer, or solicitation to buy or sell securities. Investing involves the risk of loss, and past performance does not guarantee future results.