By Kyle Tetting
February proved exceptionally challenging for investors. Many of the biggest winners from the stock market of the past few years pulled back meaningfully in the month, partly reflecting profit-taking after a long, strong run. But the pullback in growth stocks – especially the small list that had led 2023 and 2024 – also signaled growing uncertainty and some economic softness we haven’t seen in recent years.
The good news, at least so far, is that stock investors experienced strength in a few areas that had been unloved awhile. That’s especially true of consumer staples, but traditional value stocks broadly navigated February without much pain.
Even better news: The environment for bonds has been as productive as we could have hoped. Modest declines in interest rates across February helped push bond prices higher, even as the overall interest rate environment remained favorable to bond investors.
In other words, balance worked exactly as expected.
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Uncertainty rising
Now for the challenge. Recent economic reports suggest increasing uncertainty. In its real-time look at U.S. economic growth, the Federal Reserve Bank of Atlanta estimated a 2.8% downturn in the first quarter, reversing from data points earlier in February that pointed to gross domestic product growth at or beyond 2%.
While the real-time look includes plenty of noise, the Fed’s role in our economic landscape means the central bank’s projections will capture headlines. Add in reports of declining consumer confidence and retailers like Target issuing more cautious sales guidance, and it’s easy to see how optimism soured in the most expensive stocks.
Uncertainty has driven up measures of expected volatility, such as the CBOE Volatility Index, which rose to its highest level in months. Similarly, we’ve seen spikes in volatility across a variety of alternative asset classes. Investors have been shifting their approach almost as swiftly as the headlines have changed.
What to do
Amid shifting winds, it’s easy to allow our portfolios to be blown in directions we don’t intend – responding to headlines in an effort either to run to opportunity or away from risk. What’s worse, though, is ignoring opportunities to enact change that reflects shifts in actual underlying fundamentals.
Despite recent volatility, we have not seen much change in the long-term fundamental outlook. I remain cautiously optimistic that stocks will provide meaningful opportunity for growth. The key themes we’ve been discussing for years are still intact: The scope and scale of technology shift, coupled with massive demographic changes in our country, remain supportive of both economic and stock-specific growth.
However, as we’ve been addressing for some time, the interest rate environment finally provides competition to stocks. To that end, investors face a tougher choice than they’ve had in 15 years about how best to position their portfolios. That’s a good problem to have, to be certain, but it isn’t as simple as buying cheap stocks and holding them through thick and thin.
Given new economic uncertainties in recent months and the stock market response, February statements offer a great opportunity to revisit risk tolerance. As always, we are well served as investors to remember that volatility in the part of our portfolio that includes stocks is part of the price we pay for the longer-term growth potential that stocks provide.