Market Commentary First Quarter 2008
Good News is Good Again
The first quarter of 2008 was a difficult one for US stocks. Pronounced weakness throughout much of January finally diminished after a surprise 75 basis point inter-meeting interest rate cut by the Federal Reserve, followed by a second 50 basis point cut a week later. Renewed selling returned in March as weak economic data and further concerns over the credit crisis helped perpetuate the market’s slide. The near collapse of investment bank Bear Stearns punctuated the weak quarter in mid-March. The Fed once again undertook significant action to instill confidence towards, and the health of, the US banking system. And while Bears may have outnumbered Bulls year-to-date, their spirited emergence from hibernation may be somewhat premature and short-lived.
The S&P 500 fell 9.92% in the first quarter of 2008. The NASDAQ 100 Index, which is more representative of the sectors, companies, and characteristics that Oak favors, dropped 14.5%. International markets also fell sharply in the first quarter, with few equity markets emerging unscathed. Towards the end of the quarter, however, an important shift in sentiment occurred - one that we believe suggests the pronounced weakness year-to-date may be exhausted.
For some time now any news, good or bad, has been received poorly by the market. For example, since October most of the Fed’s interest rate cuts (positive boosts for the economy) have marked short-term peaks in the market. Positive earnings announcements from bellwether companies led to profit-taking; optimistic comments from leading CEO’s were dismissed, and the government’s bail-out plans were sometimes overlooked by the market. A change in this trend, where all news is received poorly, however, may signal that the worst may be behind us, and that a turn is upon us.
The Fed’s latest 75 basis point reduction rallied the market in mid-March. This too occurred despite optimistic expectations for a 100 basis point decrease. Nonetheless, the less-than-expected reduction was still well-received. Meanwhile, the near-death experience of Bear Stearns failed to accelerate a weak and skittish market. The Wall Street investment house, which suffered a modern-day version of a bank run, narrowly averted bankruptcy following unprecedented action by the Fed to support J.P. Morgan, Bear Stearns’ bargain-shopping suitor. Despite this, the number of financial stocks falling to new lows failed to expand. At the end of the quarter, news that the Switzerland-based banking giant UBS would write off an additional $19 billion in assets (about 1/3 of its market-cap), raise $16 billion in additional capital, and replace its CEO sent its stock surging over 14%.
The market is responding to bad news as good news and good news as good news once again. This is indicative of a market turn. Essentially, prices have discounted the change in the investment outlook, and sentiment is so poor that additional selling pressure fails to drive the market lower.
Indeed, since mid-March, the markets have shown glimpses of strength, both internally and externally. On March 18, just one day after Bear Stearns’ collapse, the S&P 500 posted its single largest one-day gain since mid-2002. Interestingly, in mid-2002 the S&P 500 produced a handful of extraordinarily large one-day returns. This period also marked the front-end of the 2000-2002 bear market bottom.
We feel there is a lot to be positive about and are excited about the return potential from currently depressed levels. Sentiment is very negative and at extreme bearish levels, which usually prevail at or near market bottoms. The Fed has been both proactive and creative in trying to limit the credit crisis, prevent a recession, increase liquidity, and boost confidence. Washington, also, has contributed a fiscal stimulus package in the form of rebates. This bodes well for consumer spending for the next two quarters. Finally, valuations are very attractive and rarely this inexpensive for several of the sectors Oak favors.
We recognize that it has been a difficult period for US equities. Our work, however, indicates that it is times like these that produce tremendous buying opportunities for long-term investors. Market bottoms occur over time, not overnight. Yet we are seeing encouraging signs that the risk/reward is favorably skewed to equities, and growth equities in particular. Given our preference for large-cap growth companies with strong balance sheets and healthy market opportunities, we believe the portfolios are very well positioned to benefit from the current investment environment.
Thank you for reading.
Robert Stimpson, CFA
Oak Associates, ltd.
This material represents an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice.