Like Fourth of July fireworks, investors have been bombarded with lots of smoke and noise lately. The S&P 500® Index has pulled back from record highs reached in January, and market volatility has increased. Global trade concerns continue to dominate the headlines, while higher short-term U.S. interest rates and rising inflation also have kept stocks from breaking out of the range they’ve been in since February.
Should investors be worried? What’s important and what’s just noise?
In recent months, the United States has imposed or threatened a broad array of tariffs against trading partners including China, Mexico, the European Union and Canada. Many of these trading partners have launched countermeasures against U.S. goods.
“Contentious trade negotiations have occurred in the past, but the fact that they’re being played out so publicly is a new phenomenon—resulting in rising trade-related market volatility,” says Liz Ann Sonders, Schwab’s chief investment strategist. “Although markets are clearly reacting to the day-to-day trade news, investors should refrain from trying to trade around the volatility.”
The tariffs that actually have been imposed so far affect a relatively small portion of the nearly $20 trillion U.S. economy, Liz Ann says. However, additional tariffs have been threatened, and over time the “second-order” effects of eroding consumer and business confidence could be a serious problem, she says.
“If the confidence of consumers or businesses is shaken, the potential grows for spending and capital investment to level off or decline,” Liz Ann says. That lack of spending and investment can have a significant impact on economic growth.
A sturdy bull market
Trade isn’t the only cause for concern—investors are also eyeing the rising value of the U.S. dollar against other currencies (which tends to hurt U.S. exports), slowing global economic growth and the possibility that the Federal Reserve could raise short-term interest rates too much and choke off economic growth.
However, the bull market is likely intact, Liz Ann says. U.S. companies have plenty of cash on hand, and tax reform has made it attractive to repatriate even more of their cash from foreign countries. That money can fuel business investment, expansion and stock buybacks, among other uses. Additionally, business and consumer confidence remains healthy, according to surveys such as the Institute for Supply Management’s Report on Business® and The Conference Board’s Consumer Confidence Index®.
Tax reform continues to provide a tailwind for the economy, while job growth remains strong: In June, more than 213,000 jobs were created, according to the U.S. Bureau of Labor Statistics. Although the unemployment rate ticked higher, it was still near a record low at 4.0%.
Second-quarter earnings season is starting, and with it should come a better look at both the health of the economy and the potential damage from the trade skirmish, Liz Ann says. In particular, investors should be watching for more cautious tones or any scaling back of capital spending plans, she says.
“Much of the sound and fury is best ignored by long-term investors, but there are growing risks to the bull market in the form of rising trade disputes and the possibility of a central bank mistake,” Liz Ann says. “For now, we believe the bull market is intact, but are growing more concerned and urge investors to remain disciplined and diversified.”