The market experienced its first official correction in four years in August, as the S&P 500 and the Dow suffered their worst month since May 2012 and May 2010, respectively. Both the size and the speed of the correction were impressive. The S&P 500 fell 10% in just five trading days, including three successive days with losses of 2% or more—something that hasn’t happened since August 2002. Several factors are weighing on the markets, including slower growth in China & uncertainty around the timing of rate hikes by the Fed. This type of correction, however sudden & violent it may feel, is not uncommon. In 19 of the last 35 years, markets have suffered a decline of 10% or more, and in all but two of those 35 years, markets saw declines of 5% or more. Concerns over China continue to dominate the headlines, but it is important to note that only 1% of US GDP comes from exports to China and only 2% of S&P 500 revenues are directly linked to China. Underneath all of the headlines, U.S. economic data remains solid, commodity prices & inflation are low and monetary policy continues along its accommodative path. Consumer confidence, spending and income rose in July, while durable goods orders had strong increases in June & July, indicating improving business investment. Second quarter GDP was revised upward from 2.3% to 3.7%, exceeding all estimates of economists surveyed by Bloomberg.
Major market averages declined in August, snapping the third longest streak without such a correction in fifty years. The market sell-off bears the inscription “Made in China”, as a 2% devaluation of the Chinese yuan served as one of the trigger points. Oil prices demonstrated even more volatility, with prices falling for eight consecutive weeks through 8/21, before abruptly reversing & moving 30% higher in a matter of days. Emerging markets have been hit hard by falling commodity prices and have the highest exposure to the Chinese slowdown. Volatility may continue in the weeks ahead, as September is historically the worst-performing month for US equities. The significant retreat in stock prices leads to reduced odds that the Fed raises rates in September.
The yield on the 10-year Treasury finished August unchanged at 2.20%, masking the underlying volatility that occurred during the month. The 10-year Treasury yield dipped as low as 1.91% toward the end of August as investors fled the falling equity markets in search of a safe haven (bond prices and yields move in opposite directions). August marked the first time in four months that yields fell intermittently below 2%. Corporate bonds and, in particular, high-yield bonds in the energy sector were negatively affected by falling oil prices and poor business prospects. Nevertheless high-yield spreads tightened somewhat toward the end of the month as the price of oil rose. Bonds from energy-related companies account for a substantial portion of the high yield indexes.