If you haven't been monitoring the market lately, I have news for you: it's volatile out there. Put one way, volatility is near the highest levels seen in several years.
Not since the debt ceiling crisis of 2011 and the financial crisis of 2008 have we seen volatility at these levels. This bears special attention. When volatility is at heights only seen since periods of crisis in the market, care must be paid to our investments.
There is a substantial bit of concern in the market right now regarding the decisions of the Federal Reserve on interest rates. Said abstractly, for the past 5 years, every major surge in volatility has been accompanied by a decision regarding the fiscal or monetary health of the United States.
In 2011, we encountered the debt ceiling crisis. This crisis was really no surprised to those who have watched United States economic news for any length of time. For decades the United States has kicked the can down the road in regards to putting its economic house in order. As seen in the following chart, irresponsibility is the name of the game in political economics these days.
In 2011, we reached a climax in which one side of the debate would not budge for an extended period of time. Rather than getting into the details of the debate, as an investor what we're truly interested in is price, because only price pays the bills. When there is substantial question regarding the health of the economy, the S&P 500 (NYSEARCA:SPY) fluctuates dramatically, as seen by the near 25% trading range in the market over a 2 month period. For those who are familiar with historic swings in the market, this is quite high.
The next time we had an event similar in magnitude to the trading range we are witnessing today was at the end of last year. As seen in the first chart, at the end of 2014, the United States ended its quantitative easing program. For several years the Federal Reserve had engaged in unconventional economic warfare by printing money to buy debt-based securities. The idea here was that the Fed wanted to pull down interest rates across the yield curve so that business investment would directly benefit through lower borrowing costs of capital. Even though not all will agree with me, I'm a believer in quantitative easing (to an extent). Despite my beliefs on the controversial topic, one thing is very clear - when the Federal Reserve acts, or changes a course of action, volatility surges. During the period of time when the Fed ended quantitative easing, the market traded within a 15% range over a period of two months.
Today, we are seeing the market experiencing simply dramatic swings. This year, we have seen the S&P 500 trade within a 15% range and encounter one of the fastest price recoveries in recent market history.
In 50 days, the S&P 500 has moved from a several month low to the highest prices ever seen. This is truly a traumatic reversal.
Over the last 2 weeks, we have met and exceeded all time highs in the market. The market is saying, "I have digested the volatility and everything will be okay. Buy me."
There really is nothing else to conclude from the data. Historically speaking, when we see a huge surge of volatility driven by a fiscal or monetary decision, the market tends to rally for the following months and years. Currently, the Federal Reserve is debating the correct interest rate increase path for the next several quarters. This normally would send shivers down my spine due to the heightened volatility associated with these events. However, in this situation, the data is pretty clear - the market is probably going to keep going up. Since the financial crisis, every uncertain economic event has resulted in initial volatility followed by substantial price rise. Why should this time be any different?
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.