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Goldilocks RIP: Stocks Plunge Amid Economic Uncertainty

By John Persinos on February 28, 2018

Goldilocks is dead. The economic environment of “not too hot, not too cold” that has propelled the bull market is giving way to concerns that the American growth engine will either overheat or sputter.

After seesawing throughout the trading session on Wednesday, the Dow Jones Industrial Average, the S&P 500 and the tech-heavy Nasdaq all closed deeply in the red. Stocks opened sharply higher this morning, but gains evaporated as the day wore on.

Federal Reserve policy remains a wild card, as the era of “getting it just right” comes to an end. After a long period of unnatural calm, volatility is back.

The U.S. Commerce Department reported Wednesday that U.S. gross domestic product (GDP) expanded at a 2.5% annual rate in the final three months of 2017, instead of the previously reported 2.6% pace. The revised number represents a deceleration from the third quarter’s robust 3.2%.

The downward revision to fourth-quarter GDP growth was mostly driven by a smaller inventory build than previously reported. Investors saw the data as a sign that perhaps the Federal Reserve would take a more dovish stance on rates in 2018. And yet, Federal Reserve Chair Jerome Powell on Tuesday hinted to Congress that four rate hikes, not merely three, are in the cards this year. Wall Street’s cognitive dissonance on the economy is roiling equity markets.

Separately, the Chicago Purchasing Managers Index (PMI) report on Wednesday came in at 61.9 for February, down from 65.7 in January. The PMI reading fell below expectations and represented a six-month low. That said, any reading over 50 indicates improving conditions.

In the late stages of a recovery, as we’re in now, central banks rarely get it just right. Traders are worried that the Federal Reserve will overreact to inflation and excessively raise interest rates. However, if growth slows down too much, it would make it harder to justify excessive valuations.

Investors are grappling with the fact that the “Goldilocks” era is coming to an end. The CBOE Volatility Index (VIX) today jumped nearly 9.0%.

The bullish case for oil…

Regardless, the bullish argument remains in place for energy.

On February 20, Suhail al-Mazrouei, OPEC’s rotating president and energy minister of the United Arab Emirates, announced that the cartel is developing a plan for a formal partnership with 10 other energy producers, including Russia.

For the Saudis and Russians, rising American shale production poses a threat. A Saudi-Russian alliance would counter that threat.

During the oil boom in the early days of the economic recovery, oil prices reached an astonishing high of $110 a barrel in mid-summer 2014. Energy companies of all stripes recklessly borrowed money to expand production, which seemed like a good idea at the time.

The shale production revolution in North America turned the U.S. into the world’s largest producer of oil. America actually dethroned Saudi Arabia as the king of oil producers, a landmark that we thought we’d never see in our lifetimes. The resulting glut pushed down crude prices and drove many indebted producers into bankruptcy.

Over the past year, OPEC and its partners have succeeded in their goal of curbing oil production to return the oversupply of global crude to a rough balance. OPEC leader Saudi Arabia and Russia have long been antagonists. A pact between the two petro-states would cheer energy investors, because it would signal the return of control to a freewheeling energy sector.

Crude oil averaged about $42/bbl in the 12 months before OPEC production cuts started in November 2016. The price now exceeds $60/bbl.

OPEC’s deal-making has a habit of falling through. But if the ambitious Saudi-Russian partnership announced last week actually sticks, it would shore up oil prices well into the future. Higher oil prices would in turn prop up the broader stock markets.

But on Wednesday, oil prices plummeted in tandem with stocks. West Texas Intermediate declined $1.52 to close at $61.49/bbl. Brent North Sea crude slipped $1.90 to close at $64.62/bbl.

Wednesday Market Wrap

  • DJIA: -1.50% or -380.83 points to close at 25,029.20
  • S&P 500: -1.11% or -30.45 points to close at 2,713.83
  • Nasdaq: -0.78% or -57.35 points to close at 7,273.01

Wednesday’s Big Gainers

Financial services firm targeted for merger.

Apparel retailer’s operating results excel.

Retailer reports impressive earnings.

Wednesday’s Big Decliners

Bearish lithium demand hurts miner.

Negative FDA ruling tanks drug maker.

Home improvement retailer’s earnings disappoint.

Letters to the Editor

“I’m hanging out with my cash and waiting. What is going to move you to suggest putting that cash back into stocks?” — Rick W.

As you know, I’ve recommended boosting cash allocations to at least 25%. February’s correction has proven the wisdom of maintaining that cushion. I expect to lower that recommended portfolio allocation once I’m confident that the current market swoon is over.

As today’s market behavior showed, stocks remain volatile. Despite recent sharp drops, we may be in for further declines. Hang tight and keep your powder dry. Buying opportunities are sure to emerge. Stocks have been excessively valued for a long time.

Questions about this month’s correction? Send me an email:

John Persinos is managing editor of Personal Finance and chief investment strategist of Breakthrough Tech Profits.


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