Insights on Recent Stock Market Volatility

The market’s recent decline and spike in volatility appears to have been prompted by last Friday’s weaker-than-expected jobs report, which followed the FOMC holding the Fed Funds rate unchanged in a range of 5.25% to 5.50%. With unemployment climbing to 4.3%, a three-year high, and only 114,000 jobs being added in July, (compared to the 175,000 that economists estimated) investors seemingly view this as a clear sign that the Federal Reserve (the “Fed”) has waited too long to lower interest rates and that the U.S. economy could be heading for a recession.

In addition to weaker jobs data and a disappointing Manufacturing ISM (Institute for Supply Management) number on August 1, another catalyst to the recent volatility has been the technical unwind of the Japanese yen carry trade. This happened when the Bank of Japan (BoJ) raised interest rates, and thus prompted investors to unwind their borrowing in Japanese yen and reduce their corresponding investments in other, riskier, markets.

Japanese equities as well as long positions on the Australian dollar and Mexican peso have been the most affected by brutal capitulation, which has spread over other asset classes, especially those which have so far benefited from strong momentum. The yen’s recent appreciation against the U.S. dollar started in early July and has accelerated over the past week. Prospects of further BoJ tightening, U.S. Fed easing, and increasing geopolitical tensions in the Middle East are all spurring the sell-off of the safe-haven yen. Government bond prices in the main developed economies have also rallied month-to-date, with the U.S. 10 Year Treasury yield heading below 3.8% by August 5^th.

While there is in fact some weakness in the jobs market, we are not yet shifting our outlook nor ruling out the possibility of a “soft landing.” Our second quarter investment commentary covers some of the risks to the economy, including the high level of interest rates and cracks in the labor market. And with the Fed continuing to keep rates high, they are walking a fine line between fighting inflation and risking economic weakness. While near-term inflation has been under control, the CPI may continue to decline over the remainder of the year. Looking ahead to the last few months of the year, the Fed is expected to be cutting rates, with the only questions on timing and magnitude of those cuts. Meanwhile, the economy is continuing to grow, albeit slower than the last two years, and corporate earnings are expected to finish the second quarter at a healthy 11% year-over-year rate.

Market declines and periodic corrections are normal, and yet this recent volatility seems to be quite a strong reaction to only one month of data. With that said, there has been a lot of volatility this year following the release of economic data points. Recall that at the beginning of the year, the market anticipated up to 7 cuts for the Fed Funds rate, then went to expect almost no cuts, and now is expecting 125 bps cuts for the rest of 2024 with a high probability of a 50bps cut in September. We expect there will be more ups and downs in the main financial parameters in the coming months as the market attempts to forecast the outcome of the Fed’s actions.

In sum, the current take on recent volatility is that we have not yet seen sufficient evidence to shift our view of the economy, but as always we keep a close eye on economic data. It’s worth a reminder that periodic shorter-term volatility is normal part of investing in stocks and other risk assets, and selling when short term discomfort is high can significantly compromise long-term returns. Our approach is to remain on the lookout for opportunities that present themselves in the financial markets, and to take advantage of them if we are convinced doing so will increase longer-term returns.

Important Disclosure

This report is solely for informational purposes and shall not constitute an offer to sell or the solicitation to buy securities. The opinions expressed herein represent the current views of the author(s) at the time of publication and are provided for limited purposes, are not definitive investment advice, and should not be relied on as such.

The information presented in this report has been developed internally and/or obtained from sources believed to be reliable; however, Litman Gregory Wealth Management, LLC (“Litman Gregory” or “LGWM”) does not guarantee the accuracy, adequacy or completeness of such information. Predictions, opinions, and other information contained in this article are subject to change continually and without notice of any kind and may no longer be true after the date indicated.

Any forward-looking statements speak only as of the date they are made, and LGWM assumes no duty to and does not undertake to update forward-looking statements. Forward-looking statements are subject to numerous assumptions, risks and uncertainties, which change over time. Actual results could differ materially from those anticipated in forward-looking statements.

In particular, target returns are based on LGWM’s historical data regarding asset class and strategy. There is no guarantee that targeted returns will be realized or achieved or that an investment strategy will be successful. Target returns and/or projected returns are hypothetical in nature and are shown for illustrative, informational purposes only. This material is not intended to forecast or predict future events, but rather to indicate the investment returns Litman Gregory has observed in the market generally. It does not reflect the actual or expected returns of any specific investment strategy and does not guarantee future results. Litman Gregory considers a number of factors, including, for example, observed and historical market returns relevant to the applicable investments, projected cash flows, projected future valuations of target assets and businesses, relevant other market dynamics (including interest rate and currency markets), anticipated contingencies, and regulatory issues. Certain of the assumptions have been made for modeling purposes and are unlikely to be realized. No representation or warranty is made as to the reasonableness of the assumptions made or that all assumptions used in calculating the target returns and/or projected returns have been stated or fully considered. Changes in the assumptions may have a material impact on the target returns and/or projected returns presented.

A list of all recommendations made by LGWM within the immediately preceding one year is available upon request at no charge. For additional information about LGWM, please consult the Firm’s Form ADV disclosure documents, the most recent versions of which are available on the SEC’s Investment Adviser Public Disclosure website (adviserinfo.sec.gov) and may otherwise be made available upon written request to compliance@lgam.com

LGWM is an SEC registered investment adviser with its principal place of business in the state of California. LGWM and its representatives are in compliance with the current registration and notice filing requirements imposed upon registered investment advisers by those states in which LGWM maintains clients. LGWM may only transact business in those states in which it is noticed filed or qualifies for an exemption or exclusion from notice filing requirements. Any subsequent, direct communication by LGWM with a prospective client shall be conducted by a representative that is either registered or qualifies for an exemption or exclusion from registration in the state where the prospective client resides.