It Looks Like the Worst Is Over

 

Shh, don’t tell anyone, but I think the recent stock market correction is done.

Since the February 8th bottom, the S&P 500 has gained 5.6%, and is now close to 100 points from its January 26th all-time high. The Dow Jones Industrial Average is once again above 25,000, some 1,200 points above its recent lows.

The Nasdaq Composite index has again topped 7,000 and posted a bigger percentage gain than either the Dow or the S&P from its low. Investors have jumped on board the FAANG stocks again, betting on fast growing companies to weather whatever economic storms are brewing.

And the much-watched CBOE Volatility index (VIX) also reflects growing confidence and calm. The VIX spiked to 37, a multiyear high way above recent lows below 10. Now it sits in the high teens. If stocks keep rising, the VIX will likely continue to slide.

So, why do I think the worst is over?

 First of all, the sell-off was long overdue: It’s been two years since the last real 10% correction, and Sam Stovall of CFRA Research calculated the stock market had gone 564 days before the last 5% decline in stocks ended. So, this was part of the market’s natural ebb and flow.

Second, investors clearly overreacted to the first inklings of inflation—the big jump in average hourly wages in the January jobs report and a slightly higher than expected increase in the Consumer Price Index. But as I wrote in my MarketWatch column this week, we’re got a long, long way to go before we have a serious inflation problem, and the economy can tolerate a lot more growth before it overheats.

Third, warnings about a bear market in bonds seem premature. The ten-year Treasury note’s yield has moved up sharply since year end, but it remains around 2.9%. I think it needs to top 3% and stay there for a while before we declare this a new bear market in bonds. (Pimco, one of the world’s largest bond fund managers, said it wasn’t buying the bond bears’ thesis, either.)

And the Federal Reserve ‘s semiannual monetary policy report showed little concern that inflation was just around the corner; it forecast 1.8% inflation in 2018, below its 2% target. Pundits said that report made it unlikely the Fed would raise the federal funds rate more than three times this year (although I don’t think four rate hikes would be a big deal, either).

The point is, as I wrote when the sell-off began, is that nothing had fundamentally, structurally changed—we had good economic growth, strong corporate earnings, and low inflation and interest rates. So, the correction was normal and now, I think, it’s over.

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