Global stocks have continued their recovery this year. The MSCI All-Country World Index gained 10.8% in the first two months. The V-shaped nature of the latest market move reminds us that investor sentiment often turns on a dime. The sharp selloff last year, and this year’s quick bounce-back, leaves both bulls and bears scratching their heads.
The Federal Reserve signaled a rate hike pause that relieved investors. The Chinese central bank took more decisive easing steps, cutting bank reserve requirements and injecting liquidity to the banking system. And, for now, investors can take comfort that global policy makers have their back.
As a result of this apparent central bank support, both stocks and bonds have rallied. A pause in rate hikes gives bond investors a greenlight. Stocks received support from both the discounting effect from lower yields and reinforcement that higher interest rates won't squash business activity.
Return of Goldilocks
We could be setting the stage for a “not too hot, not too cold” scenario. Discerning between trade distortions and a real slowdown in economic data is challenging. Regardless, inflation seems contained, and recent volatility shook out some excessive risk-taking. Remaining trade uncertainty is keeping a lid on enthusiasm and could result in a melt-up setting for equities.
Gauging the health of the economy by financial markets is like using an overly sensitive thermometer that vacillates between +200 and -200 degrees. You may get a sense if it is a warm or cool day, but it is still difficult to tell how it actually feels outside. Market sentiment tends to swing from moments of sheer terror to jubilance in a matter of days or months, challenging long-term investors to keep a cool head. Luckily, this matters little for those with a solid plan and a long view.
What We Are Doing
With the rapid rebound, the market presented a short window to pick up stocks at a discount. Still, we look for opportunities to add positions that haven't quite recovered. We have shed shares in some firms where financial strength measures have eroded. We continue to maintain a bias towards companies with high-quality balance sheets and complement our market capitalization-weighted index funds.
What It All Means
It's a challenge to discern what is happening in markets as sentiment swings. Worrying about what is out of your control, and what does not matter in the long run, does no one any good. Having an investment strategy grounded in a sound intellectual framework is a good start. Financial markets have a long history of testing the wits of investors. Experiencing volatility and noting your feelings is the truest indicator of risk tolerance.
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