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Ask the Financial Expert: The Real Reason Stocks Are Falling

Ron Joelson •  February 3, 2016 | Your Finances, Ask the Expert

Each month, we book time with some of our company’s top financial brain power to answer questions about investing and your finances. This month we’re talking about the volatile start to the year in the markets.

Do you have a question for our financial experts? Email it to us at: AskTheExpert@northwesternmutual.com

Ron Joelson

Ron Joelson is Northwestern Mutual's chief investment officer and oversees the company's general account, valued at approximately $200 billion as of June 2015.

Mark McLennon

Mark McLennon is vice president of Investment Products and Services (IPS) Business Development. He oversees the fee-based financial planning program and departmental growth initiatives.

Brent Schutte

Brent Schutte is chief investment strategist of Northwestern Mutual Wealth Management Company. He oversees the investment philosophy for individual retail investors and the investment strategy for nearly $90 billion in assets under management.

The following is an excerpt from our Ask the Financial Expert podcast (listen to the entire podcast below):

Mark: It’s been an interesting few weeks with the new year. A lot of people are looking at the stock market and wondering what’s going on. Ron, what’s your take?

Ron: It was quite an exciting start, maybe not in a good way. We’ve had quite a couple of weeks of consternation. There were concerns coming out of China, concerns in the oil and gas industry relating to low oil prices and just a general belief that perhaps the global economy was not as good as people were thinking. And I think there has been a great overreaction to some of the things that were going on.

I think it’s worth reminding people that we have had many of these kinds of things before. If you go back 40 years, we’ve had at least 20 times when we’ve had major market moves like this. Sixteen of those times the equity markets were actually higher a year later. And the times when they weren’t higher there was usually a recession or a problem with the accounting scandals such as Enron and WorldCom. There were specific reasons why they weren’t ahead. Markets react very quickly to some of these events.

Unfortunately, I think there tends to be an overreaction, and it may reflect the fact that investors are nervous. They’ve seen multiples at fairly high levels, and so perhaps they’re looking for bad news to react to. But I do think overreaction was the case this particular period of time.

Mark: Nervousness in the markets usually is expressed in terms of volatility. Brent, in last month’s podcast, you mentioned there’s probably some volatility to come. It looks like we saw a little bit of that.

Brent: The technical term that we’ve been using to kind of describe the market over the past three, four months is that we expected a “back-and-forth.” Certainly, as Ron mentioned, we’ve had the back. Now we look forward to the forth. I’ve heard a lot about Mike Tyson in the past few weeks. Mike Tyson is quoted as saying, “Everyone has a plan until they get hit.” We find in investing that too often people don’t have a plan, and that’s the real cause of the volatility and the overreaction to different markets.

My comments last month were meant to ready investors for what we believed was coming because what we saw over the past few weeks is not historically abnormal. If you look back to 1994, the Federal Reserve raised rates, and the market fell 9 percent in the aftermath. In 2004 the Fed raised rates; the market then fell 5 to 7 percent three separate times later that year. In those cases, the economy did not fall into recession. In fact, the economy did well even though the narrative was much like it is now, that the Fed was doing something wrong. We continue to believe this time will be similar.

We think a recession remains a low probability:

  • Even if there were a recession, we believe it would likely be relatively minor.
  • In order to have a recession in the U.S., something has to happen to consumers or the banks.
  • The reason why 2008 was so big was that both were affected.
  • Right now if you look at the fundamentals, the consumers are doing just fine. Their balance sheets have recovered, they’re getting wage increases, and they’re actually saving.
  • The banks are also doing just fine.

To sum it up for what it means to investors, we think that you should look through the shorter-term volatility. We think you should continue to diversify your portfolio and not make the big mistake a lot of investors make, which is move out of the asset classes that did poorly over the past few years.

The goal of diversification is to not get all the upside, but then not to also get all the downside. Ultimately, we believe longer term to intermediate term that rewards are still out there for stock market investors.

Ron: And that diversification helps you avoid the overreaction we were talking about. I also think, Brent, your comments are also totally in line with the GDP report that just came out.

  • The consumer was the bright spot in this report. After-tax income was up 3½ percent, which is the most since 2006. Consumer confidence held up, and we have the positive effects of oil.
  • Oil fell 13 percent in the fourth quarter, and the consumer was willing to take some of those dollars and use them.
  • We also saw it in home building and in autos.

So we continue to see those positive spots. And it’s important to point out the U.S. consumer is responsible for 20 percent of global GDP.  

Having said that, there are issues that are out there. There is weak global demand, low oil prices are also hurting the oil industry, businesses reduced their investment by nearly 2 percent annualized in the fourth quarter, and corporate spending was down. Spending by the oil and gas industry itself was down almost 35 percent. So the strong dollar, trade gap, all of those things are things that we’ve got to keep an eye on.

I just think we need to be careful not to overreact because there are those spots in the economy that are looking good.

Hear more from Ron and Mark in the “Ask the Financial Expert” podcast:

Do you have a question for our financial experts? Email it to us at: AskTheExpert@northwesternmutual.com

The opinions expressed are those of individual investment professionals as of the date stated on this article and are subject to change. This material does not constitute investment advice, is not intended as an endorsement of any specific investment or security and is not a prediction of what will happen in the markets.

Please remember that all investments carry some level of risk, including the potential loss of principal invested. With fixed income securities, such as bonds, interest rates and bond prices tend to move in opposite directions. When interest rates fall, bond prices typically rise; and conversely, when interest rates rise, bond prices typically fall. This also holds true for bond mutual funds. When interest rates are at low levels, there is risk that a sustained rise in interest rates may cause losses to the price of bonds or market value of bond funds that you own. At maturity, however, the issuer of the bond is obligated to return the principal to the investor. The longer the maturity of a bond or of bonds held in a bond fund, the greater the degree of a price or market value change resulting from a change in interest rates (also known as duration risk). Bond funds continuously replace the bonds they hold as they mature and thus do not usually have maturity dates and are not obligated to return the investor’s principal. Additionally, high-yield bonds and bond funds that invest in high-yield bonds present greater credit risk than investment-grade bonds. Bond and bond fund investors should carefully consider risks such as interest rate risk, credit risk, liquidity risk and inflation risk before investing in a particular bond or bond fund.

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