Stock Investors Slash Risky Bets as Bull's 10th Year Begins

The bull market can't last forever, and investors are preparing for the next bear market by raising cash and rebalancing their portfolios towards less risky holdings, The Wall Street Journal reports. The specters of rising inflation, rising interest rates and international trade conflict threaten to put an end to the so-called Goldilocks Economy that has been propelling stock prices upward. "Until now, the expansion was seen as one that could go on and on without any signs of price inflation, and that's being questioned now," as Larry Hatheway, chief economist at Zurich-based asset management firm GAM Holding, which oversees $163 billion of client assets, told the Journal.

Record-Shattering Performance

From the start of 2017 through the close on March 13, the S&P 500 Index (SPX) has risen by 23.5%. In 2017, the widely followed market barometer notched 62 record high closes, second only to 77 in 1995, per MarketWatch, citing research from the WSJ Market Data Group. The most record high closes for the month of January had been 11, set in 1964. That record was surpassed on January 23, 2018, per the same sources, and was followed by two more record high closes, the last on January 26, for a total of 14. (For more, see also: 5 Factors That Will Determine The Stock Market's Future.)

The Return of Volatility

However, the euphoric mood was shattered by a long overdue correction that sent the S&P 500 down by 10.2% between the closes on January 26 and February 8. Since its all-time record high set at the close on January 26, the index is down by 3.7% as of the close on March 13.

Meanwhile, stock market volatility, as measured by the CBOE Volatility Index (VIX), spiked during the correction, and has settled down to a level roughly 50% above its unusually placid average reading for most of 2017. This has unsettled many formerly complacent investors, and is a factor in the high level of worry about the securities markets among our millions of readers worldwide, as measured by the Investopedia Anxiety Index (IAI). (For more, see also: Strategies to Volatility-Proof Your Portfolio.)

Good News Is Bad News

As has been the case at many other times in the past, good economic news often is being taken as bad news for stocks right now, the Journal says. For example, reports of rising wages, falling unemployment, and rising GDP are sparking fears of inflationary pressures which, in turn, will raise corporate costs, cut profit margins and boost interest rates, sending stock and bond prices downward. (For more, see also: Stock Investors Should Brace for 40% Plunge: JPMorgan.)

Goldilocks Has Left the Building

"Rising interest rates and escalating trade conflict have ended the 'Goldilocks' environment of 2017," as Goldman Sachs Group Inc. says in its most recent U.S. Weekly Kickstart report, dated March 9. "History suggests that S&P 500 returns can remain positive if 10-year Treasury yields rise at a monthly pace slower than 20 bp and the level of yields remains below 4%. We forecast bond yields will reach 3.25% by year-end," they continue. Veteran economist and market watcher Ed Yardeni also expects rates to remain well below 4%. (For more, see also: Why This Bull Market Can't Be Stopped.)

The new tariffs on imported steel and aluminum, Goldman says, will have a limited impact on corporate profits, since they account for only 1% of U.S. corporate revenues. However, profit margins are likely to be squeezed among heavy users of these metals, notably among makers of autos and machinery. The biggest danger for U.S. corporate profits, Goldman warns, is the prospect of widespread retaliatory tariffs and import restrictions being enacted by other countries. (For more, see also: 7 Stocks That Will Win in a Global Trade War.)

Defensive Measures

In its most recent survey of fund managers, Bank of America Merrill Lynch finds a record monthly increase in the percentage of them who are hedging against a sharp drop in stock prices during the next three months, the Journal reports. GAM Holding is adopting long-short strategies that seeks to gain from both rising and falling asset prices, and is buying emerging market debt to diversify, per the Journal. The chief investment officer (CIO) at Swiss private bank Julius Baer Group, Yves Bonzon, told the Journal, "Buy and hold won't work anymore." He indicated that his firm, which manages $410 billion, is liquidating equities and building up cash balances.

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