YTD equity markets are down -25%. In nearly 100 years, the S&P 500 has seen only 15 drawdowns greater than 15%. What’s notable, however, is that three of those 15 have occurred in just the last four years, five in the last 20 years. Equity investors must be keenly aware of this drawdown frequency, as downturns require higher positive returns to break even.
Moreover, the higher portfolio volatility translates into higher uncertainty about funding future liabilities. For many corporate treasurers, it may also directly impact balance sheets, drawing scrutiny from investors, creditors, analysts, and the public.
Cross-Asset Class Volatility
Equity volatility is still relatively low, given historical observations and relative to today’s bond and FX volatility. Bond and currency volatility are rising to new highs as measured by the MOVE Index and CVIX Index. It’s challenging to think that the VIX index, which is a proxy for equity volatility, won’t sharply rise too. We are studying the volatility relationship across asset classes closely.
Capital is Still Concentrated
It’s also clear that even though capital concentration has stabilized in U.S. markets, the weight of the top ten stocks by capitalization remains high after peaking at the end of the first quarter. The top of the market, like Apple, Tesla, and Microsoft, is consensus positioning that remains vulnerable. We remain skeptical that leadership returns to these names after all the dust settles in equity markets.
Given the uncertainty about the magnitude and frequency of drawdowns, we are actively exploring strategies that combine our understanding of stock price volatility with hedging signals and tactical rotations informed by cross-asset class volatility. We believe such a combination may be necessary to ensure core equity strategies are able to navigate tomorrow’s equity markets.
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We must look beyond conventional narratives and risk metrics in today’s markets. So each quarter, Intech examines equity market stability through the lens of the Intech Equity Market Stress Monitor® ― a collection of five reliable metrics of market strain that can help you gain additional insight into market risk regimes.