Market volatility has once again been dominating the
headlines, and the headlines have been adding to the volatility.
When Highland’s Ed Leach was featured on FiOS 1 news a few weeks ago, he mentioned something called “headline risk”. This is defined as the risk that causes markets to react based on a cursory view of a sensationalized headline and not necessarily all of the facts or fundamental data behind the story.
With a little help from William Shakespeare, I will provide some perspective on headline risk by borrowing the titles from some of his classic works. I am by no means an expert on Shakespeare, but I recall reading the books noted below in high school and college, both of which were a long time ago.
Much Ado About Nothing - The Federal Reserve Bank (Fed) raising interest rates
An interest rate increase is imminent and inevitable. Interest rates have remained at
historical lows for almost six years to help stimulate the economy, but ultra-low
rates cannot be sustained without the potential risk of inflation.
(Sustainability will be a common theme this week.) The Fed has been discussing raising a benchmark rate they use from 0% to 0.25%. (One quarter of one percent.)
This has become headline news because borrowing money at very low rates has enabled consumers and corporations to support the economy. Recent data suggests, however, that economic growth is strong enough so the economy no longer needs the stimulus provided by extremely low rates.
Indeed, the unemployment rate reported last Friday stood at 5.1%. Recalling Economics 101, “full employment” was 5%, so the U.S. economy is showing tremendous improvement from the severe recession of early 2009.
Historically, the Fed has increased rates in increments of 0.25%,
so the increases should be slow and methodical in order to lessen the impact on
If rates were to rise from 0% to 1%, this would be cause for slightly more concern, but even still, not an alarming concern, and the Fed has given no indication that rates will increase by that much over the next year. This will, in fact, make borrowing money slightly more expensive, but it will also increase rates on our savings accounts.
Measure for Measure - China’s slowing growth
China’s global role has been increasing over the past several decades, as it has rapidly become the world’s second-largest economy and second-largest equity market. Many people seem concerned about China’s size, but we think its ongoing growth offers opportunities despite current challenges.
has been growing by about 10% annually for more than 30 years. By any measure, this is impressive
growth, but that level cannot be sustained. (To put this is in context, a mature
country like the U.S. grows at about 2% a year.)
The concern over the past few months is that the growth has been slowing…to a still impressive 6%-7%. If it continues to grow near 7% per year, China could become larger than the U.S. economy in the mid-2020s.
So, while slowing
growth from 10% to 7% will indeed cause China to buy fewer iPhones and Ford
cars, they remain a robust economy.
Keep in mind- China is a developing economy,
not a developed economy, with economic output per
person at just under $7,000 compared to more than $50,000 in the U.S., according
to the World Bank.
The growing number of Chinese consumers with better incomes to spend has made it the largest single market for autos, computers, shoes , etc. As living standards continue to improve, we expect Chinese consumers to keep shopping.
Like many investors, you already may be well-positioned to benefit from these trends, with international investments and others including U.S. or foreign companies that sell to Chinese customers and/or buy from China. And we think these investments remain attractive today.
The Comedy of Errors - Greece
If the situation in Greece were not so tragic, it could be
the basis for a Hollywood comedy. After
Greece adopted the euro in 2001, public spending and government borrowing
soared, leaving the country unable to pay its way when the global financial
Since 2009, Greece has been kept on life support by two bailouts from the European Union, European Central Bank and International Monetary Fund worth a total of €240 billion.
From the NY Times:
Greece became the epicenter of Europe’s debt crisis after Wall Street imploded in 2008. With global financial markets still reeling, Greece announced in October 2009 that it had been understating its deficit figures for years, raising alarms about the soundness of Greek finances.
Suddenly, Greece was shut out from borrowing in the financial markets. By the spring of 2010, it was veering toward bankruptcy, which threatened to set off a new financial crisis.
To avert calamity, the so-called troika — the International Monetary Fund, the European Central Bank and the European Commission — issued the first of two international bailouts for Greece, which would eventually total more than 240 billion euros, or about $264 billion at today’s exchange rates.
The bailouts came with conditions. Lenders imposed harsh austerity terms, requiring deep budget cuts and steep tax increases. They also required Greece to overhaul its economy by streamlining the government, ending tax evasion and making Greece an easier place to do business.
Enter, stage left, Alexis Tsipras, the textbook definition of a demagogue. Tsipras ran for and was elected Prime Minister based on a campaign platform that addressed, head-on, the austere measures imposed by the troika. This problem was his campaign had no real plan, he simply stirred emotions and gained support by promising to stand up to the troika and “not take it anymore”.
After months of seemingly endless negotiations between
Greece and powers that be in the EU, they could not reach an agreement on a
deal to address their debt. Oddly, Tsipras abruptly decided to leave it to the Greek people
and called for a vote to decide whether to accept the current loan terms and
further austerity or risk going it alone and leaving the EU altogether.
Although the Greek people voted to reject the new terms, Tsipras ultimately accepted a deal that was worse than any on the table prior to the vote. After a very erratic seven months in office, he resigned his Presidency. The Greek people are back to square one.
There was an enormous amount of news coverage of a truly dysfunctional country that has an economy similar in size to that of Boston or Dallas-Fort Worth.
As You Like It - The media coverage of all stories above
Bad news sells. Headline risk sells. Fear sells. So, while there is significance in each of the stories above, none are as severe as we are lead to believe. The cable news networks have a tendency to sensationalize headlines because it increases viewership. They are in the entertainment business, with a mandate to provide what viewers like. Very little of it is informative.
All’s Well That Ends Well - The outcome of all of the news above
We have lived through this type of uncertainty before, and the outcome is always the same. The markets will eventually recover, and in hindsight, some of the concerns above will seem trivial.
There are opportunities in this volatility. We have reviewed and will continue to review our client’s portfolios and rebalance when the result is in their best interest. This also presents an opportunity to fund an IRA, fund a 529 plan, or fund your HSA.
When we create a plan for our clients, we fully expect a market like this to occur. Volatility is built into the plan, and while it may be painful to experience in the short-term, it is important to focus on the long-term and not succumb to headline risk.Michael D. Gibney CFP®, AIF® is a partner and financial planner at HIGHLAND Financial Advisors, LLC.
As always, seek professional advice from your comprehensive financial planner before taking advice from the internet. For more information about HIGHLAND Financial Advisors, click here, or sign up for our newsletter below to get our updated articles.