"August - Characterized by Volatility"

Sydney M. Williams

Thought of the Day

“August – Characterized by Volatility”

September 1, 2011

Volatility, which had moderated in the months following the near credit collapse of late 2008 and early 2009, returned in August with a vengeance. The VIX, a measure of option volatility, briefly returned to the levels it was in March 2009. The DJIA experienced twelve days (out of twenty-three trading days) of the market trading up or down more than 1.5%, making it the most volatile month since November 2008.

Volatility in the month was accompanied by an increase in volume. On Monday, August 8, following the previous Friday’s downgrading of U.S. debt, the market fell 634 points on 9.9 billion shares. Other than May 6, 2010 (when the market traded 10.7 billion shares,) volume that day was the highest since the late fall of 2008. Volume had been moderating as the market recovered from the March 2009 lows, and as volatility decreased.

The Averages peaked during the current cycle on May 3 at 12807.51, the highest level since early May 2008. By the end of July, the market had declined 5.5% from that peak. On August 10, when the market reached its monthly low, the DJIA were 16.3% below their May highs. During the same period, the S&P 500 declined 17.8%; the NASDAQ, 18.5% and the Russell 2000, a chilling 32.9%.

Late spring and early summer, the market was focused on the sorry spectacle in Washington and the ineptitude of our European cousins. Greece was floundering. Italy and Spain looked like they would be next in line. Germany, due to the might of their economy and the parsimoniousness of their people, appeared to be wrenching control of the European Union from their partnership with France. The fate of the Euro was in doubt. In the United States, the debt ceiling debate concluded one day before the August 2nd deadline, in a decision that satisfied no one. The economy was floundering, as first quarter GDP was reduced from a preliminary estimate of 1.8% to 0.4%. Second quarter numbers were posted at 1.3%, implying a first half growth in GDP of less than one percent. Talk of a “double dip” recession increased.

Investors entered August in a downbeat mood. Stocks had been declining for three months. During the first four days of August, the DJIA sold off 819.20 points, or 6.7%. On Friday, August 5, the market closed up 60 points on strong volume. After the close, Standard and Poor’s lowered their ratings on U.S. issued bonds from AAA to AA+. It would, we all hoped, serve as a wake-up call for our elected officials in Washington. The market on Monday responded by selling off 635 points, or 5.5%. In a market valued around $15 trillion, that represented real money. On Tuesday the market rallied 4%, before declining 4.6% the next day, August 10, the low for the month and the year to date. (Yesterday’s close of 11,613.53 was 8.5% above that close on August 10.) However, for the month the S&P 500 was down 5.7%.

Stocks were not alone when it came to volatility during the month. Copper traded within a range of 15%. Gold began the month at 1629.10, traded as high as 1912.80, on an intraday basis, on August 23. It closed the month at 1828.50, up 12.2% for the month. During the day of August 18, the U.S. Ten-Year sold for less than 2% for the first time in sixty-one years. The next day the yield on the Three-Month Treasury Bill went negative momentarily for the first time since the credit crisis of 2008. Treasuries gained 2.8% for the month.

On August 25, Warren Buffett and Bank of America announced an agreement in which Mr. Buffett invested $5 billion in preferred shares with a 6% coupon, plus warrants to buy 700,000,000 shares of Bank of America at a price about a dollar below where it closed the month – not a bad return for a week’s investment! However, Mr. Buffett’s investment did give the market a vote of confidence and the DJIA are up 4.2% following the news of his investment.

Volatility reflects nervousness and indecision. It is symptomatic of a lack of confidence. In this instance that lack of confidence is a measure of people’s feelings toward our politicians and concerns as to the economy, both at home and abroad. Volatility of this sort usually, but not always, is associated more with market bottoms than tops. It requires investors to put events into perspective. If they do, volatility can be their friend. If they don’t, it can be a killer.

In general, my longer term attitude toward stocks remains unchanged. In the seventy years of my life, there have been four distinct markets: 1941-1966; 1966-1982; 1982-2000, and 2000 to the present. Within those timeframes there have been hundreds of smaller, cyclical markets. However, the tectonic shifts that cause a secular bull market to turn into a secular bear market, and vice versa, require a momentous event, unfortunately apparent only after the fact. Astute investors have been able to make money in all environments, but it is easier to do so during secular bull periods. When will the current period end? I have no idea; there is nothing on the horizon that gives me comfort that a change is in view. However, just because no such event is apparent or even visible on the distant horizon does not mean one will not appear. In the meantime my best advice is survive; don’t despair, and don’t try to make a killing.