Photo of a man reviewing his investments during market volatility.

Our thoughts on recent market volatility

One day the market’s up. Then next day, it’s down. Sometimes those ups and downs all happen in a single day—and get entangled in news such as the spread of coronavirus to more than 50 nations.

As an investor, you should expect these bumps in the road.

Spreading viruses are scary. But market fluctuation isn’t necessarily all negative.

Volatility isn’t just markets dropping. It's movement. Markets can—and have—moved down. But volatility means they can move up, too. Lately, they’ve been dropping. Here’s why:

  • Growing fears over COVID-19 (coronavirus) as it continues to spread have been affecting the markets—due mostly to concerns about the impact to global supply chains.
  • China, the epicenter of the outbreak, has grown as part of the global economy, so the impact is more extreme than similar previous issues, like SARS in 2003.

But remember the bigger picture: Market volatility now doesn’t necessarily imply negative market returns by the end of the year.

Main sources of market volatility

“There’s a lot of noise out there, but two main sources of uncertainty usually drive market volatility: interest rates and economic growth,” says Bob Baur, Ph.D., chief global economist for Principal Global Investors.

Interest rates

Think of interest rates as the price of money. When rates go up, businesses pay more to borrow money they need to expand and grow. And when rates are lower, it’s cheaper for companies to get the money they need. That interaction makes interest rates an important factor for investments because of how investors perceive the impact on economic growth.

In late 2018, the Federal Reserve (Fed) announced that it would begin raising interest rates to help prevent the United States economy from overheating—growing too quickly and causing high levels of inflation. Markets reacted with a lot of volatility because they were worried that higher rates would cut off economic growth. In 2019, the Fed reversed course, lowering interest rates a few times. Markets took this as good news because it means borrowing costs are lower, potentially allowing U.S. growth to continue.

There’s a lot of noise out there, but two main sources of uncertainty usually drive market volatility: interest rates and economic growth.”

Bob Baur, chief global economist for Principal

“Every time there’s an announcement from the Fed, or a press conference from one of the Fed members, markets may react with some volatility as investors digest the news,” Baur says. “The thing to keep in mind is that even though interest rates may be headed down or up, they’re still relatively low.”

Economic growth

This is the engine that drives most companies’ earnings, so it affects investments, too. When investors worry that economic growth is slowing (such as during the current spread of coronavirus), markets can move lower, expecting a period where the economy could shrink—what economists call a recession. “An economic recession is a sign that we’ve reached a peak,” Baur says, “and that the economic cycle is renewing itself.”

Trade tensions between the U.S. and China eased in recent months but have been a big factor affecting perceptions of growth and the possibility of a recession—now compounded by the supply-chain disruptions related to coronavirus. The worry is that tariffs and trade barriers could negatively affect U.S. manufacturers and agricultural exporters, pushing growth lower. And when the U.S. puts tariffs (taxes on imported items) on goods coming from China, these tariffs can start to make things consumers buy more expensive. Plus, with the global supply networks that many businesses have these days, tariffs imposed by other countries on the U.S. can potentially blow back and affect U.S. products.

“While U.S. economic growth has been slower,” Baur says, “the effects from trade tensions with China have been minimal to the U.S. In fact, there are signs that the U.S. economy is still relatively strong.” Baur points to an active housing market and strong U.S. job market. Consumers with lots of employment opportunities tend to feel more comfortable spending money.

Market volatility—even in the face of coronavirus—is nothing new

Volatility is part of investing. Always has been. Markets aren’t more volatile than they’ve been in the past. What’s different now is how quickly risks can appear and affect investments. Maybe it’s an announcement from the Fed, a possible pandemic, or simply a tweet.

Part of this is driven by technology, which now allows information to be distributed and consumed faster than ever before. That makes it easier and quicker for news—both good and bad—to make its way into markets. The change is also partly driven by the interconnected global supply chains that tie various economies together.

Whatever the cause, there are two things investors should remember. First and most important: Volatility is typically a short-term phenomenon and retirement is a long-term prospect. Sticking to a long-term investment plan can be one way to counteract the stresses of volatility.

Secondly, markets will eventually learn to adapt to the speed of information. Markets learn to separate noise from true information. That’s something they’ve always done. It will just take some time for markets to learn to work at this new higher speed.

What this can mean for investments

Volatility doesn’t change our commitment to you at Principal®. Although volatility is typically a short-term phenomenon, we’re not advocating short-term, reactive investment decisions. A practical investment approach is generally based on a long-term view and your time horizon. Here are three things to keep in mind:

  • Volatility may bring opportunity. Markets can overreact—and sell off more than the economic fundamentals would suggest they should. When markets dip for this reason, you can potentially buy more with the money you invest.
  • Market drops don’t necessarily reflect what’s going on with the U.S. economy. 
  • Keep thinking about a broadly diversified portfolio, which may help during volatile periods.

What to do next? 

The subject matter in this communication is educational only and provided with the understanding that Principal® is not rendering legal, accounting, investment advice or tax advice. You should consult with appropriate counsel or other advisors on all matters pertaining to legal, tax, investment or accounting obligations and requirements. 

Investing involves risk, including possible loss of principal. Asset allocation and diversification do not ensure a profit or protect against a loss.

Equity investment options involve greater risk, including heightened volatility, than fixed-income investment options.

The commentary represents the opinions of Principal Global Investors. It should not be considered investment advice. No forecast based on the opinions expressed can be guaranteed and may be subject to change without notice.  No investment strategy, such as diversification, can guarantee profit or protect against loss. 

Insurance products and plan administrative services provided through Principal Life Insurance Co. Securities offered through Principal Securities, Inc., 800-547-7754, member SIPC and/or independent broker-dealers. Principal Life, and Principal Securities are members of the Principal Financial Group®, Des Moines, Iowa 50392. Principal Global Investors leads global asset management and is a member of the Principal Financial Group®.