Anyone flying regularly knows that sinking feeling in the pit of their stomach when the fasten safety belt sign comes on and the captain informs us that we’re in for some rough air ahead. Even though I witnessed a stress test of airliner wings at Boeing, which bent the tips of the wings over the height of the fuselage, knowing the wings were not going to fall off does nothing to unwind the knot in my stomach when the plane starts to bounce around. If you have any kind of investments, you better get used to that feeling because there’s some rough weather ahead in the markets.
If markets had a fasten safety belt sign it would be chiming at this very moment. This is one of those rare times when it doesn’t matter if your investments are equities, bonds, or hard assets, everything is going to get bounced around. The next three months are not going to be fun and you can expect to see wild swings in both directions.
The beginning of all the instability can be traced to the collapse of oil prices. Energy stocks, a big component of the S&P 500, are getting whacked. Normally excesses in world oil markets prompt OPEC, which is mostly Saudi Arabia, to scale back production, but not this time. In response to rising oil inventories the Saudis decided to maintain production levels flooding the market with cheap oil.
Make no mistake, this is Saudi Arabia taking a direct shot at U.S. oil production and, at least so far, it’s working. Layoffs in U.S. and Canadian oil fields have already started and even support industries, like U.S. Steel have laid off workers anticipating reduced demand for the steel pipe used in oil drilling. This is when free markets break down, when the strong players try to game the system to undermine competitors. The Saudis are well aware that cheap oil hurts American energy companies; these actions are deliberate.
The instability caused by low oil prices has spread through the markets, pushing the VIX, the volatility index, to heights it’s only reached five times in the history of the index. The normal values for the VIX are 60-90, and it currently stands at 110, meaning there’s more rough air ahead.
Expect the volatility to infect investments of every class. We’ve already seen the effect on equities markets and instability there has also ruffled the bond markets as nervous investors look for safer alternatives. The instability in the energy sector is also being impacted by a strong U.S. dollar, which is flying high in world currency markets. The strong dollar impacts the price of all commodities, including hard assets like gold and silver.
For the next few months at least any type of investment is going to see increased volatility; expect wild price swings to go on at least through summer. Times like these are why shrewd investors adopt a disciplined approach to investing. If it were easy, it wouldn’t be called “discipline” it would be called “recess” or something more fun.
If you have let your defensive investments in hard assets slide, now might be a good time to lock in some profits from equity sales and catch up on the fixed percentage of your wealth in hard assets. Even though prices are higher than a few weeks ago, gold and silver prices are still very attractive. With the Fed in a bind of a strong dollar, itred will have to find an excuse to hold off interest rate increases and print more dollars or risk watching the U.S. economy tip into recession. The Fed won’t let that happen and, when they do find an excuse for further stimulus, you can watch gold prices explode.
While volatility in markets can be gut wrenching, it can also provide opportunities for those who take the long view on investing. Use sudden drops as an opportunity to buy and make the volatility work for you.
