Volatility is an ever-present force in the world of investing, often catching investors off guard when they least expect it. Recently, this volatility has shaken the confidence of many investors, casting doubt on whether the Federal Reserve will lower interest rates as anticipated or successfully navigate the delicate balance of managing inflation without triggering a recession.
The surge in oil prices has added fuel to the fire, with some banks warning that this inflationary driver could soon surpass $100. Finally, the market is starting to pay heed to Fed Chairman Jerome Powell’s repeated warnings over the past several months – reducing inflation to the desired 2% mark is no easy feat, and further interest-rate hikes may be necessary.
Despite sporadic glimpses of economic improvement, investors cannot simply rely on a few positive indicators to determine the overall trend. The recent spike in energy prices serves as a stark reminder of the unpredictable nature of the market.
Consequently, there has been a noticeable uptick in selling stocks and hedging portfolios as investors come to terms with the harsh reality that achieving an economic soft landing, akin to sailing through a hurricane to find a serene tropical island, is an arduous task.
Furthermore, many individuals underestimated the possibility of a government shutdown on October 1st. It was difficult for them to conceive that a small group of House Republicans could fail to approve a government funding bill, but that is precisely what has happened.
While these politicians argue that America’s staggering $33 trillion debt burden weighs heavily on future generations, it would be more constructive for them to find alternative ways to address their concerns.
Moody’s, a prominent bond rating agency, warns that a government shutdown would have a detrimental effect on America’s credit rating and highlight the nation’s political dysfunction in comparison to other creditworthy sovereign nations.
Fitch, another influential bond rating firm, has already downgraded America’s debt to AA+ in early August for similar reasons. S&P had previously downgraded U.S. debt to AA+ in 2011.
As the dust settles, investors are left grappling with a slew of data that leaves little room for interpretation. The road ahead remains uncertain and fraught with challenges.
Rising Risks and Competitive Bond Returns
The current yield on the 10-year Treasury note stands at approximately 4.55%, reaching its highest level in the past year. As risk-free bond returns become increasingly competitive with stocks, many investors are finding it difficult to justify steep earnings multiples in the hope that equity prices will continue to rise.
S&P 500 and Technical Trading Levels
The S&P 500 index recently experienced a decline below the support level of 4330. While technical trading levels can sometimes seem like mystical voodoo, the influence they hold is undeniable. The sheer number of people who closely monitor these levels can lead to significant selling if there is a widespread belief that a long-term trendline has been breached.
Rising Risks Unheeded
For months, this column has been sounding the alarm about escalating risks. Despite these warnings, reader feedback has often been critical, indicating just how desperately investors want to believe in a positive outcome.
The Surge in VIX – Fear Gauge
Since we outlined the litany of risks, the Cboe Volatility Index (VIX) has experienced a surge. The so-called “fear gauge” has spiked by approximately 40% over a span of two weeks. On September 13, it stood at 12.82, but it has now reached roughly 19.
A Cautionary Message from the Markets
While it may not be satisfying to continually suggest caution, the message from the markets remains consistent. We anticipate this message to intensify, potentially transforming into an operatic aria. When this occurs, long-term investors will find opportunities to capitalize on fear by selling cash-secured short-term put options and acquiring blue-chip stocks that they can hold in their portfolios for years.
Prepare for Stock Market Volatility
Watch closely for any developments that might trigger a significant decline in stock prices. During such fearful times, options volatility tends to surge, making stock prices more attractive. Be prepared to take advantage of these opportunities.