Today was a wild ride for the stock market. The Dow Jones posted a loss of 1,031 points on February 24, 2020 as fears of the continued spread of the Coronavirus sparked a selloff in the stock market. Over the past 24 hours, we’ve received the following questions from clients that I want to address in this article:
- Why is the market selling off on this news?
- Do you think the selloff will continue?
- Should you be moving money out of stocks into bonds?
Why Is Market Selling Off On This News?
You have to remember that the stock market is made up of individual companies. Each company’s stock price is just an educated guess by investors as to how much those companies are going to make in profits over the next 3 months, 1 year, 5 years, and beyond. Unexpected events like the Coronavirus create large deviations between those educated guesses and actual results.
In the case of the Coronavirus, it’s disrupting the revenue stream of many companies that produce and sell goods across the globe. For example, Nike receives 17% of its revenue from China, and the company has temporarily closed more than half of its stores in China. The stores that remain open are operating on abbreviated hours. If the stores are not open, then they can’t sell Nike shoes and apparel, which will most likely cause Nike’s Q1 revenue to be lower than expected. That in turn could cause the stock price to drop once the Q1 earnings report is released later this year.
But it’s not just Nike. The S&P 500 Index is made up of a lot of companies that sell goods in China and other locations around the world: Apple, Yum Brands, McDonalds, Proctor & Gamble, and the list goes on. Beyond just retail, you have airlines, hotels, and casinos that are being negatively impacted as people cancel travel plans and vacations. The point I’m trying to make is there are real business reasons why the stock market is reacting the way it is, it’s not just displaced fear.
All of these companies are trying to figure out right now what the impact will be to their revenue. The next question then becomes, how much are these companies going to miss by?
Do You Think the Selloff Will Continue?
That leads us into the next questions which is “do you think the selloff will continue?” Historically, contagious disease outbreaks have been quickly contained, such as the SARS outbreak in the early 2000’s. The amount of damage to the markets seems to be highly correlated to the amount of time it takes to contain the outbreak. The longer it takes to contain the outbreak, the longer it takes people to return to work and to return to their normal spending habits. The news broke this morning that there are new confirmed cases of the Coronavirus in Italy and South Korea which makes investors question whether or not the threat has been contained.
Unfortunately, there is no solid answer as to how long the current selloff might last. It could end tomorrow or it could continue off and on over the next few weeks. But it’s important to remember that even though market events like the Coronavirus do impact the short-term profitability of companies, it’s less common that these types of events impact the long-term performance. When you have a selloff sparked by a single market event versus a full blown recession, it’s not uncommon for long term investors to start stepping into the market and buying stocks at these lower levels.
Should You Be Moving Money Out Of Stocks Into Bonds?
This bring us to the final question, should you be making changes to your investment portfolio based on today’s market events? In my opinion, the answer to that is “no” but I think there is a lesson to be learned for investors that are still overweight stocks in their portfolio. Over the past year, the stock market has appreciated rapidly in value but the growth rate of corporate earnings has lagged behind. When this happens, stocks start to become overvalued, and the market becomes more vulnerable to selloffs.
This week the selloff was sparked by the Coronavirus, a few months from now it could be fears surrounding the elections in the U.S., trade, or some other geopolitical event. When you enter the later stages of an economic expansion, volatility, which has been largely absent from the U.S. stock market over the past few years, becomes a common place. Investors that have elected to stay overweight riskier asset classes in the later stages of this economic cycle, need to make sure they have the risk tolerance and discipline to weather these market selloffs.
Hi, I’m Michael Ruger. I’m the managing partner of Greenbush Financial Group and the creator of the nationally recognized Money Smart Board blog . I created the blog because there are a lot of events in life that require important financial decisions. The goal is to help our readers avoid big financial missteps, discover financial solutions that they were not aware of, and to optimize their financial future.