For several years, many stock market prognosticators have been predicting some sort of decrease in stock prices. They have called this downward move by various names: pullback, correction, price dip, or even more drastic terms like plunge or bear market. And yet, for years, the major market indexes seemed oblivious to all the warnings, continuing to push through record high after record high.
Well, here we are in early February 2018, and the market may finally be delivering what so many of the pundits have been looking for. In the last two trading sessions (as this is written), the Dow has fallen by just over 1,800 points (around 7 percent of its value at its high point) and the S&P 500 has shed about 173 points (about 6 percent of its value).
What has caused these sudden downdrafts in the market? Analysts suggest a couple of principal factors. First, many have been saying for quite some time that the market is “overvalued,” meaning that the prices of many of the stocks that make up the averages have been pushed higher than the underlying value of the issuing companies can justify. When this happens, the markets tend to become very susceptible to any bad news that can give investors a reason to sell their holdings. And that brings us to the second factor: worries about inflation that were set off by the rather positive employment and wage figures reported by the US Labor Department at the first of February. The report stated that the US economy added about 200,000 jobs in January (more than many analysts expected) and that wages grew by almost 3 percent—the strongest rise since the onset of the Great Recession. Further, unemployment was reported at just over 4 percent. Taken all together, many analysts believe the stage may be set for companies to be forced to pay higher and higher wages. This can lead to higher inflation, which is typically bad for the economy. This belief, combined with the “overvalued” state of the markets was enough to trigger a selloff.
It’s important to remember that the markets always go down at some point. Periodic corrections (or pullbacks, or plunges, or whatever one might call them) are actually a necessary part of the business cycle. This became harder to remember during the bull market, when it seemed that the only way prices could go was higher. But it couldn’t last forever, and everyone, whether they wanted to admit it or not, knew this.
What remains unknown is the depth and duration of the downturn that may have started or how quickly the market will recover. Will we see a 10 percent correction? Twenty percent? We just don’t know. As we have stated many times in this blog, efforts to predict the precise size and timing of market moves–up or down–are unsuccessful in the overwhelming majority of cases.
In uncertain times–and all times are uncertain, for one reason or another–we might do well to remember the advice Warren Buffett offered in a recent annual report to the shareholders of Berkshire Hathaway: “During such scary periods, you should never forget two things: First, widespread fear is your friend as an investor, because it serves up bargain purchases. Second, personal fear is your enemy. It will also be unwarranted.”
During all times, investors should maintain focus on long-term goals and stick with a carefully conceived strategy. Over time, in good markets and bad, these traits will prove far more important than short-term price movements.