What could short-term volatility mean for long-term investors?

Markets are continuing to be highly volatile – and the past two weeks have seen historic gains and losses. While I prefer to evaluate performance over longer periods, it’s understandable that investors are especially interested in the market’s daily fluctuations. Here’s what I’ll be watching in the coming week and months.

This current market volatility could lead to tomorrow’s long-term opportunities. On Feb. 28, the CBOE Volatility Index^® (VIX^®) – which measures expectations of near-term volatility – closed at 40.11.¹ This is unusual, as there have only been seven periods since 1990 that saw the VIX finish the week over 35, but it’s hardly surprising given the recent volatility we’ve seen.

Interestingly, though, history shows that a weekly close in the VIX above 35 is correlated with higher stock prices in the next year. One year after each of the seven periods where the VIX closed over 35, the S&P 500 Equal Weight Index was higher, with an average return of 15.5%.¹ In contrast, the average VIX return was -38.4%. What’s more, over the same period, the S&P 500 Equal Weight Index outpaced the S&P 500 by 0.4%. (The one exception was the aftermath of Sep. 11 and headwind created by the “popping” of the technology bubble.)

So, what does this mean for investors? In my view, the VIX reflects investors’ current state of unease, but it also represents a buying opportunity for investors willing to take a longer-term approach.

Equity volatility may linger. The U.S. market is in for a volatile year. Recent news reports suggest the worst of the coronavirus has yet to impact the U.S., and the market will be vulnerable to pricing the policy risk in the leadup to the November presidential election. The country is very polarized, so I believe there is a risk that President Donald Trump’s generally friendly fiscal/regulatory policies could be reversed. I believe the political dynamic is a reason for investors to consider holding onto low-volatility stocks.

Tracking the impact of the coronavirus. When it comes to monitoring the impact of the coronavirus on economic activity, I recommend watching the price of oil and the direction of industrial commodity prices. Energy is critical to transportation and production, and it is likely to produce less noise than government comments and the talking heads in the media.

Moreover, the Atlanta Federal Reserve’s (Fed) GDPNOW forecast for Q1 growth is 2.7%,² durable goods orders looked to be on the upswing (helped by the inventory cycle), and pending home sales appeared to be especially strong.³ Moreover, the Philadelphia Fed non-manufacturing survey was stout, pointing to robust growth.⁴ The strength of economic growth going into to the shock of the coronavirus may reduce the severity of its impact on the market.