Before last year, investors may have been lulled by the four-year period of steadily rising markets and easy credit. Yet, as we have seen, tremors in a niche market can quickly turn into earthquakes in the global financial markets. Losses in the subprime mortgage market served to expose the underlying bubble of debt that had been supporting the steady rise. No doubt, the newfound anxiety that caused tumbling markets in January can make fund investors believe that stocks are too risky at a time when economists are spending so much time handicapping the chances of a U.S. recession in 2008.
We would like to put current events in perspective. Over the past 10 years, we've experienced numerous instances of volatility, including the Russian default crisis of 1998, Tech Wreck of 1999, terrorist attacks in 2001, and corporate scandals and airline bankruptcies in 2002. For a time, uncertainty in the financial markets was a way of life and volatility was about the same or more than now. Yet the resilient U.S. economy recovered and returns have been significant for those who managed, rather than avoided, risk.
We caution investors to not let short term events change their long term approach. The widening of credit spreads in corporate bonds and mortgages has now made yields more reasonable; at the beginning of 2007 we found low yields on many fixed-income investments hard to justify. Issuance of convertible debt has soared, a promising trend that may eventually increase opportunities for our strategies that use convertibles.
As we discussed in a recent commentary, we believe that the equity markets may have already put the worst behind them and a recession is already priced into many stocks. (Remember, stocks often rise during recessions because investors are thinking one or two years ahead.) We have positioned our portfolios with companies that have solid balance sheets and significant global sales in case of U.S. economic sluggishness, but we believe there are ample opportunities to profit from earnings growth now.
| S&P 500 and Volatility |
| We have seen even more volatility, as represented by the VIX Index*, in the past 10 years than we have seen now, yet financial market have continued thrive. Volatile markets often present selective opportunities for patient, long-term investors. |
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Source: Bloomberg LP |
| *TheChicago Board Options Exchange VIX Index measures expectations of near-term volatility conveyed by S&P 500 stock index option prices. The VIX Index is generally considered to be a barometer of investor sentiment and equity market volatility. The S&P 500 Stock Index is an unmanaged index generally considered representative of the domestic large-cap stock market. Indexes are unmanaged and assume reinvestment of dividends. Investors cannot invest directly in an index. |
The opinions referenced are as of the date of publication and are subject to change due to changes in the market or economic conditions and may not necessarily come to pass. Information contained herein should not be considered investment advice.