Consistent with the soggy weather, the month of April saw the return of dark skies for equity markets. While the headlines show North American equity markets had the worst monthly performance numbers since last fall, down 4.1% for the S&P500 and down 1.8% for the S&P/TSX, the real story is the return of volatility. While the overall change in the VIX (some refer to as the fear gauge) wasn’t extreme, during the month, there were some stunning single stock moves, as some issues saw +10% intraday swings.
While many have been calling for an increase in volatility this year, what has been most notable recently is that most of this volatility has been happening within the mega-cap technology leaders. After last year, when it seemed this group could do no wrong, questions are now being asked if we had gotten ahead of ourselves.
The first example would be the laggard of the so-called ‘Magnificent 7,’ Tesla. It has been down for most of the year and was probably due for a bounce, but a near 40% move higher into month end caught everyone off guard. Also notable were the swings in everyone’s favourite AI play, Nvidia, which saw one of the largest single-day drops in market cap ever, only to recover it all in the following four trading days. Not to be overlooked, upon the earnings report from Google parent Alphabet, we were able to witness the largest one-day gain in market capitalization in history. These moves are remarkable on their own, but happening together to the largest companies in the world over a few weeks is something that everyone needs to be paying attention to.
There is no question that many investors and traders grew complacent after the gains last year. It’s also no secret that many major equity indices are very concentrated in technology companies, at a level last experienced during the dot.com days. Add to that the rise of volatility management programs and systematic trading from CTAs, and you have trading within markets that are hard to keep track of. The volatility of these few names is having a dramatic effect on the broader markets.
What caused the volatility to pop up this month is another debate. We came into the year with the bond market expecting lower yields and rate cuts, yet with recent stronger US economic data and higher inflation, that seems very unlikely. This isn’t new news, as the odds of rate cuts had declined through the first quarter. Still, stocks had been doing a great job of ignoring it. Maybe the realization of this reality caught up with everyone in April as markets are once again acting with a negative correlation to bond yields.
Earnings is another topic of conversation. With equity markets at all-time highs and near the top of the band in historic valuations, we need to see earnings growth to have them move higher. Early reports of Q1 earnings have been coming in less than expected, and we are beginning to hear more concerns that higher yields may be impacting consumer demand. While a US recession may be pushed back, it doesn’t mean there won’t be some softness in the economy.
There is one theme from earlier in the year that has remained: The resurgent interest in commodities. While energy prices will change on every geopolitical headline and gold remains near all-time highs, other commodities are getting renewed attention. The price of copper has long been tied to the health of the global economy, but more recently, simple supply and demand equations have come into focus. the increase in energy demand and the transmission capacity needed to power AI in the face of no new supply coming on has the power to move base metal prices materially higher. This came fully into focus during the month, with BHP making a hostile offer to acquire AngloAmerican for its copper assets. The theme of real assets looks to remain with us for a while and makes the odds of a rapid fall in inflation even more unlikely.
Volatility has returned to markets and should make everyone focus on their positioning. The second half of the year will remain challenging as we will have to deal with the increasing uncertainty of the US election. That doesn’t mean it’s time to sell and avoid the markets, but it does mean this year could be very different from last. Volatility can also mean equal opportunity, and with the largest names in the world trading in a manner similar to penny stocks, tilting active over passive across asset classes should yield positive returns.
— Greg Taylor, CFA, is the Chief Investment Officer of Purpose Investments
All data sourced from Bloomberg unless otherwise noted.
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