Markets Continue Slide on News of Tariffs and Other Worries

 

The Dow Jones Industrial Average fell by over 1% for a third straight day on Thursday, something it has not done in over two years. Markets tumbled after President Trump said the U.S. would impose tariffs of 25% on steel and 10% on aluminum. This decision comes after the Commerce Department released results of a study looking at whether steel and aluminum imports pose a threat to national security. It concluded the imports do undermine national security. Trump also sited bringing back jobs to America as a reason for the tariffs.


The news of tariffs took many on Wall Street by surprise. In addition, there were disagreements within the Republican Party and business groups on whether tariffs should be implemented. Many contend this move will cause China to retaliate with tariffs of their own and possibly create a trade war. China has been flooding the world markets with cheap steel and aluminum due to their excess capacity, causing the price of these metals to fall around the globe. Typically, the agriculture industry is the target of tariffs abroad, but there were other industries directly impacted by the news. The share prices of U.S. aircraft manufacturers fell sharply on the prospects of increased input costs. As expected, domestic steel producers stocks rose on the news.


It has been a jittery week for investors, as the Federal Reserve Chairman, Jerome Powell, testified before the House Financial Services Committee on Tuesday and the Senate Banking Committee on Thursday. Investors were looking to glean any information they could from these hearings. On Tuesday, Fed Chairman Powell told the House committee that his outlook for the economy has strengthened since December. But when asked about the likely path of future interest rates, he answered that the FOMC might pencil in four rate hikes this year, instead of the three hikes previously forecast, if economic and inflation data warrant it. This comment jolted markets lower as the prospect of a better economy was overshadowed by the prospect of higher inflation and additional Fed rate hikes. Thus, good news was viewed as bad news.


The volatility we have seen this week is something we have been expecting for a while. As economic data continues to improve, the Fed is becoming less accommodative and planning to raise interest rates. The recent sell offs we have been seeing are actually normal on historical basis, though we have not seen them in a long time. Before the correction and partial rebound in early February, we had gone the longest period without a 3% sell-off (drawdown from peak) in the S&P 500 (311 trading days). Taking all of this into a historical context, 3% selloffs generally happen every 32 trading days, so the most recent period without such a pullback was really the anomaly.


While we have seen some market drops recently, we do not think we are in the beginning of a bear market. Although rates have been rising, they are still relatively low and support higher valuations. We feel the worries that the economy is too strong and will cause inflation are exaggerated at this point. While the unemployment rate is low, we have yet to see extended periods of wage inflation. The economy is also supported by strong corporate earnings, which should further benefit from tax reforms.


While we return to volatility levels that are more typical, investors should remember to diversify their portfolios and not have too much risk in any one area. Equities are at high valuations and bond yields are still at relatively low levels. There are risks in both bonds and equities, so diversifying within and amongst different asset classes is important. One way to diversify overall portfolio risk is to use alternative investments, which tend to have low correlations to these traditional asset classes. Given the inflation concerns that triggered last week’s selloff, commodities are also good for diversification, as their value may rise in inflationary periods. Furthermore, gold is considered a safe-haven investment that may do well when equities sell off severely.

 

Because markets are concerned with the sharp jump in bond yields, having lower duration exposure (interest rate sensitivity) makes sense. However, since yields have risen so fast and domestic yields trade much higher than other developed nations, we would not eliminate all duration in your portfolio. Furthermore, it is imperative to diversify the types of exposure within fixed income. However, too much high yield exposure can carry equity-type risk and defeat some of the diversification benefits of owning bonds.

 

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This report is created by Cetera Investment Management LLC

 

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No independent analysis has been performed and the material should not be construed as investment advice. Investment decisions should not be based on this material since the information contained here is a singular update, and prudent investment decisions require the analysis of a much broader collection of facts and context. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. The opinions expressed are as of the date published and may change without notice. Any forward-looking statements are based on assumptions, may not materialize, and are subject to revision.


All economic and performance information is historical and not indicative of future results. The market indices discussed are not actively managed. Investors cannot directly invest in unmanaged indices. Please consult your financial advisor for more information.
Additional risks are associated with international investing, such as currency fluctuations, political and economic instability, and differences in accounting standards.


Glossary
The Dow Jones Industrial Average is a price-weighted average of 30 significant stocks traded on the New York Stock Exchange and the NASDAQ.
The S&P 500 is an index of 500 stocks chosen for market size, liquidity and industry grouping (among other factors) designed to be a leading indicator of U.S. equities and is meant to reflect the risk/return characteristics of the large cap universe

 

 

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