Reason Returns to U.S. Stocks at Awkward Time for Global Markets

Dollar Selloff: Markets Take Cue From the 1990's

Inklings of normalcy are surfacing in U.S. stocks after four years of relative calm -- and that’s not good for global markets.

Consider the swoon that dragged the Standard & Poor’s 500 Index to its worst losses in 46 months on Thursday and Friday. While the biggest in four years, all it did was push the gauge down 7.5 percent from a record high three months ago. It followed an eight-month stretch of low volatility that had virtually no precedent in U.S. equities.

The spectacle of stalwart American investors in retreat was enough to exacerbate a global rout in equities that erased more than $2 trillion from share values worldwide this week and put riskier bonds and currencies on the defensive. Markets from Shanghai to London and Sao Paulo were already buckling from a collapse in commodity prices and concern China’s economy is slowing just as the Federal Reserve prepares to raise interest rates.

“It’s disconcerting for investors from the standpoint that the U.S. certainly has been their solid foundation despite the volatility in the rest of the world,” said Daniel Genter, who oversees about $4.7 billion as chief executive officer at Los Angeles-based RNC Genter Capital Management. “For almost four years now, we’ve had a complete void of any significant volatility.”

Giving In

After standing firm in the tide of Greece’s euro drama and earlier versions of Chinese upheaval, U.S. stocks are now giving in, tumbling out of the 140-point range that has defined trading in America this year. The index sank 5.8 percent on the week, extending a retreat to 7.5 percent from May.

It’s been a gut check for global investors already fatigued by a year in which oil plunged 25 percent and currencies from the Turkish lira to South African rand and Colombian and Mexican pesos fell to all-time lows. In the past five days they’ve watched as Brazil equities slid into a bear market, Kazakhstan relinquished control of its exchange rate and losses in German shares extended past 18 percent.

“There’s no way the U.S. is going to remain an island with so much turmoil going on around the rest of the world,” said Paul Zemsky, head of multi-asset strategies at Voya Investment Management LLC, which oversees $218 billion. “It makes total sense that the U.S. wouldn’t hold in here.”

Fed, China

Not that there wasn’t reason for anxiety in the U.S. already, with the Fed poised to raise interest rates for the first time in nine years. Meeting notes released Wednesday showed that officials saw the conditions for liftoff almost fulfilled even as they argued over whether inflation is high enough to warrant it.

Less open to debate has been the implications of China’s surprise yuan devaluation, the action that ignited the selloff in commodities and developing currencies two weeks ago. Most investors took it as a sign that deepening weakness in the world’s second-largest economy would spread around the world.

In the stock market, the MSCI Emerging Markets Index has dropped almost 10 percent this month, heading for the worst August since 1998. The gauge, which fulfilled the description of a bear market on Aug. 11 by tumbling 20 percent from a peak, has wiped out all its gains since July 2009.

“This is a reminder about the typical volatility that comes with stock market investing,” said Jim McDonald, the chief investment strategist at Chicago-based Northern Trust Corp., which oversees $946 billion. “Investors have been lulled into a sense of complacency because of the very low volatility in the last couple of years.”

Bear Market

Stocks in Taiwan and Indonesia entered a bear market this week, while Turkey is on the cusp of a 20 percent retreat. In Europe, the Stoxx Europe 600 Index entered a correction with 13 out of 18 western-European markets down 10 percent or more.

While U.S. losses pale in comparison, they’re shaking confidence among investors who had looked to the largest economy as the anchor during turmoil.

It wasn’t like this before. On May 21, the S&P 500 jumped to a record high just as European shares were in the midst of a 10 percent retreat over Greece’s impasse with creditors. During the week when China’s Aug. 11 currency devaluation sparked a selloff in emerging markets, the U.S. benchmark index quietly added 0.7 percent.

Losses Spread

Now, losses are spreading in the U.S., with small-cap stocks and biotechnology companies dropping into a correction and semiconductor stocks in a bear market.

“Investors are looking to bail,” said Ethan Anderson, a senior portfolio manager who helps oversee $1.5 billion at Rehmann Financial in Grand Rapids, Michigan. “There is concern that’s showing up and saying, ‘We thought we’re moving forward. Maybe we’re stuck in a rut just like the rest of the world.’”

The retreat is aligning U.S. stocks with signals from the credit market after months of divergence. In the year through July, the S&P 500 rallied even as the extra yield bond investors demand over Treasuries widened.

Credit stress continued to build, with the spread for global high-yield companies expanding to 7.39 percentage points on Thursday, the highest in almost three years, according to Bank of America Merrill Lynch index data. Investors sought safety in government securities, driving the average yield on developed-nation bonds to a three-month low.

“People start to paint the picture like, falling stocks, flatter yield curve, falling commodity prices -- there must be a global recession coming,” said Chris Hyzy, chief investment officer at Bank of America Corp.’s global wealth investment management division in New York. The firm oversees more than $2 trillion. “That’s why you get the panic period. We don’t think that’s the case. We’re going to use these weak periods as an opportunity.”

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