Volatility Hits Global Markets Hard

by: , Chief Investment Officer and Managing Director | IndexIQ

If January was a continuation of 2017 in the markets, February was the complete opposite. Global markets saw negative performance across the board, as volatility not only returned, but spiked to levels we haven’t seen since August 2015. The market correction caused the S&P 500 to have its first down month since October 2016, and only its third down month in the past two years. The Dow experienced its two largest single-day point losses in history within the month, but neither day cracked the top 20 for largest single-day percentage losses. The sell-off was driven by the 0.5% increase in the CPI that was announced in January, which caused the spike in volatility, due to the popular short VIX trade within the market. Increased inflation drove upward pressure on the 10-year Treasury yield, which hit a three-year high. This caused the S&P and Dow Jones to give back all of their 2018 gains from the prior month.

Even through and after the large sell-off, companies continued to report strong earnings, and multiple reports from Fed presidents reiterated their lack of concern, stating that recent events hadn’t changed their fundamental outlook on the market or economy. With this commentary, coupled with bullish investors jumping at the opportunity to buy a dip, the markets saw six consecutive days of positive performance in the middle of the month, which cut the month’s losses by more than half. Volatility continued to bounce around through the end of the month, as markets shuffled between up and down days, before finishing negative for the month.

The yield curve steepened the first half of the month, as long-term rates rose and short-term rates pulled back. Throughout the remainder of the month, short-term rates rose, and long-term rates remained relatively flat, causing the curve to flatten out. Credit spreads widened throughout the month, as yields for risky bonds increased at a faster rate than investment grade. The dollar bounced around during the month, before finishing slightly stronger against most major currencies, and oil saw a minor pullback.

On the economic front, the advanced estimate of gross domestic product (GDP) was 2.5%, which met expectations. Headline inflation remained relatively flat at 1.8%. Employment gains remained flat and met expectations. Consumer confidence increased and came in above expectations.

Hedge funds posted negative results, with the broad index (HFRI Hedge Fund of Funds Index) down for the month. Six of the eight strategies had negative returns, with Global Macro and Event Driven leading the way, down -4.86% and -4.38%, respectively. Relative Value and Convertible Arbitrage were the only positive performers, returning 0.23% and 0.43%, respectively.1

Key Economic Data1

  • The U.S. Bureau of Economic Analysis (BEA) released the “second” estimate of real gross domestic product (GDP) growth of 2.5% in the fourth quarter of 2017. Real GDP grew by 3.2% in the third quarter of 2017, 3.1% in the second quarter, and 1.2% in the first quarter of 2017.
  • Headline inflation (U.S. Consumer Price Index for All Urban Consumers seasonally adjusted (CPI-U SA)) was up .5%. Core inflation (CPI-Ex Food and Energy) was 0.3%. For the last 12 months, the CPI-U NSA was 2.1% and the CPI-Ex Food and Energy was 1.8%.
  • The U.S. Bureau of Labor Statistics (U.S. BLS) announced that non-farm jobs increased by 200,000, after a revised increase of 12,000 jobs in the prior month. Private sector payroll employment gained 196,000 jobs, following a revised increase of 20,000 jobs in the prior month. The unemployment rate was 4.1%. The underemployment rate was 8.2%. The labor force participation rate was 62.7% last month.
  • The U.S. Department of Housing and Urban Development (HUD) and the U.S. Census Bureau jointly announced that sales of new single-family houses were 593,000, a change of -7.8%. Housing starts were 1,326K, a change of 9.7%. Building permits were 1,396K units, a change of 7.4%. Existing home sales were 5.38 million units, a change of -3.2%.
  • The Conference Board Consumer Confidence Index® was 130.8.

1. IndexIQ, FactSet, as of 2/28/18.

The information and opinions contained herein are for general information use only. MainStay Investments does not guarantee their accuracy or completeness, nor does MainStay Investments assume any liability for any loss that may result from the reliance by any person upon any such information or opinions. Such information and opinions are subject to change without notice and are not intended as an offer or solicitation with respect to the purchase or sales of any security or as personalized investment advice. There can be no guarantee that any projection, forecast, or opinion in these materials will be realized. Past performance is no guarantee of future results. It is not possible to invest directly in an index.

All investments are subject to market risk, including possible loss of principal. Diversification cannot assure a profit or protect against loss in a declining market. Investors cannot invest directly in a benchmark.

A yield curve is a curve on a graph in which the yield of fixed-interest securities is plotted against the length of time they have to run to maturity.

A credit spread is the difference in yield between two bonds of similar maturity, but different credit quality.

Convertible arbitrage is a market-neutral investment strategy often employed by hedge funds that involves the simultaneous purchase of convertible securities and the short sale of the same issuer’s common stock.

Distressed/Restructuring strategies which employ an investment process focused on corporate fixed income instruments, primarily on corporate credit instruments of companies trading at significant discounts to their value at issuance or obliged (par value) at maturity as a result of either formal bankruptcy proceeding or financial market perception of near term proceedings.

A Global Macro strategy is a strategy that bases its holdings, such as long and short positions in various equity, fixed-income, currency, commodities, and futures markets, primarily on the overall economic and political views of various countries, or their macroeconomic principles.

Event Driven investing is designed to capture price movement generated by a significant pending corporate event, such as a merger, corporate restructuring, liquidation, bankruptcy, or reorganization.

Equity Hedge investing buys stocks that are undervalued and short sells stocks that are overvalued. This strategy may commonly employ variable exposure as well as the use of leverage.

Distressed securities are securities over companies or government entities that are experiencing financial or operational distress, default, or are under bankruptcy.

Relative-value arbitrage is an investment strategy that seeks to take advantage of price differentials between related financial instruments, such as stocks and bonds, by simultaneously buying and selling the different securities—thereby allowing investors to potentially profit from the “relative value” of the two securities.

The Dow Jones Industrial Average (DJIA) is a price-weighted average of 30 significant stocks traded on the New York Stock Exchange (NYSE) and the NASDAQ.

HFRI Hedge Fund of Funds Index – Fund of Funds invest with multiple managers through funds or managed accounts. The strategy designs a diversified portfolio of managers with the objective of significantly lowering the risk (volatility) of investing with an individual manager. The Fund of Funds manager has discretion in choosing which strategies to invest in for the portfolio.

The S&P 500 Index is a capitalization-weighted index of 500 stocks. The index is designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.

The U.S. Consumer Price Index (CPI) is a set of consumer price indices calculated by the U.S. Bureau of Labor Statistics (BLS). To be precise, the BLS routinely computes many different CPIs that are used for different purposes. Each is a time series measure of the price of consumer goods and services.

Consumer Price Index for All Urban Consumers (CPI-U) – A measure that examines the changes in the price of a basket of goods and services purchased by urban consumers.

The U.S. Consumer Confidence Index (CCI) is an indicator designed to measure consumer confidence, which is defined as the degree of optimism on the state of the economy that consumers are expressing through their activities of savings and spending.

VIX is the ticker symbol for the Chicago Board Options Exchange (CBOE) Volatility Index, which shows the market’s expectation of 30-day volatility. It is constructed using the implied volatilities of a wide range of S&P 500 index options. This volatility is meant to be forward looking, is calculated from both calls and puts, and is a widely used measure of market risk, often referred to as the “investor fear gauge.”

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MainStay Investments® is a registered service mark and name under which New York Life Investment Management LLC does business. MainStay Investments, an indirect subsidiary of New York Life Insurance Company, New York, NY 10010, provides investment advisory products and services. IndexIQ® is an indirect wholly owned subsidiary of New York Life Investment Management Holdings LLC. ALPS Distributors, Inc. (ALPS) is the principal underwriter of the ETFs. NYLIFE Distributors LLC is a distributor of the ETFs and the principal underwriter of the IQ Hedge Multi-Strategy Plus Fund. ALPS Distributors, Inc. is not affiliated with NYLIFE Distributors LLC. NYLIFE Distributors LLC is a Member FINRA/SIPC.

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Salvatore J. Bruno

Chief Investment Officer and Managing Director | IndexIQ

Sal is Chief Investment Officer at IndexIQ, where his primary responsibility includes developing and maintaining the firm’s investment strategies. Sal joined IndexIQ in 2007 from Deutsche Asset Management (DeAM) where he held a number of senior positions

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