Thoughts from the CIO

The stock market got off to a historically poor start in January, with most major indexes falling 6% to 7% during the first week of trading.

Multiple factors contributed to the increased volatility:

  1. China – Recent moves by Chinese policymakers are creating a credibility problem. For example, a share-sale ban enacted during last summer’s selloff that was set to expire last Friday (1/8) was extended.  In addition, regulators cancelled circuit breakers that were designed to shut down trading following significant declines, because they appeared to have the opposite effect of encouraging investors to sell sooner before the market could close.  Finally, the government continues to devalue the yuan despite talking publicly about reducing currency volatility.  Investors are confused and, as a result, are fleeing Chinese stocks.
  2. Slow growth – Global economic numbers reported during the first four days of the year have been weak.  Notably, the Purchasing Managers Index (PMI), considered by many to be a reliable leading indicator, came in weaker than expected for China and the U.S., indicating a continued contraction in the manufacturing sector. As further evidence of a global slowdown, energy prices have continued to decline as demand weakens.
  3. Geopolitics – Saudi Arabia severed diplomatic relationships with Iran following the execution of a Shiite cleric, and the Saudi embassy in Iran was attacked.  Not to be outdone, North Korea claimed to have tested a hydrogen bomb, although outside observers remained skeptical about the full extent of the claim.  These are just two examples – without even getting into Syria, Ukraine, and ISIS – that highlight escalating geopolitical tensions in various parts of the world.

Not surprisingly, these issues are increasing investor uncertainty, which in turn creates market volatility. We are of the belief that in the first half of 2016 markets may experience rising volatility.  In our opinion, the recent slowdown in economic growth may not have been fully processed by the markets.

In spite of these factors, we believe that most developed economies will avoid a recession.  As such, we do not anticipate that this is anything more than a correction at this point.  Of course, markets and economies are dynamic, and we will communicate any change to our outlook if circumstances dictate.

Throughout 2015, we took several steps to reduce the relative risk exposure of client portfolios.  For example, as our concerns over China and other emerging markets increased, we reduced our clients’ portfolios exposure to emerging markets.  In addition, we have been repositioning our proprietary equity and fixed income strategies to emphasize higher quality stocks and bonds.  We also minimized clients’ portfolios’ sensitivity to the natural resource sector.  Our committees continue to review client portfolios to see if there are additional steps needed to help preserve capital in the shorter-term.