The Dow just swung more than 1,000 points in a day. Here is what extreme volatility in stocks means for markets, according to experts.

Traders work on the floor of the New York Stock Exchange (NYSE) on January 18, 2022 in New York City.
  • US stocks have swung wildly this week, with moves of over 1,000 points for the Dow. 
  • The volatility is extreme to be sure, but investors shouldn't be overly alarmed, an analyst said. 
  • "The market is trying to digest what a change in Federal Reserve policy really means," the analyst told Insider.
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Investors are likely dealing with whiplash after Monday's intensely volatile trading session. The Dow Jones Industrial Average swung more than 1,100 points only to reverse course and end in the green, and the extreme moves have only continued on Tuesday. 

The stock market is exhibiting intense volatility to be sure, but nothing investors should be overly worried about, according to Tom Graff, head of fixed income at Brown Advisory, an investment firm.

"The market is trying to digest what a change in Federal Reserve policy really means," he told Insider. "For a long time — two years — we took for granted that interest rates are gonna remain extremely low. Now that's uncertain and uncertainty breeds volatility."

The Fed is concluding its two-day policy meeting on Wednesday — its first of the year. The central bank is set to raise interest rates in 2022 but what markets are not sure about is how aggressive it plans to be. 

The consensus is for the Fed to increase rates four times this year, starting in March with a 25-basis-point increase, though some analysts believe policy makers could move even more aggressively. Goldman Sachs said the central bank may hike rates at every meeting from March on — seven increases in total this year. 

The coming shift in monetary policy will upend over a decade of stock market wisdom, specifically the TINA investment thesis, or "there is no alternative" to stocks as rates remained at historic lows. 

"People are being shaken out of a certain complacency," Graff told Insider. "I think there are sets of stocks where the valuations were predicated on interest rates being very low."

So what does the volatility say about the market?

The current volatility is more of an expression of uncertainty than anything else, as investors transition away from the stocks that have juiced their portfolios in recent years and search for the next big winners. 

Investors who were holding on to high multiple, high growth companies such as Shopify, Peloton, and other mostly tech stock are now reevaluating their positions, Graff said, sparking bouts of volatile trading. The next wave of big tech earnings — Microsoft, Tesla, and Apple are all set to report this week — may exacerbate those reassessments.

Graff says what is interesting is the disconnect between the recent sell-off and the real economy. By a number of metrics, the economy is on solid footing: hiring is robust, labor demand is strong, retail sales haven't cratered, and the service sector has expanded at the fastest pace since September.

"Right now, there is no real evidence of an economic problem," he told Insider. "But I don't think we are particularly close to a certain level of calm ... I think things will be clearer sometime in the first half of the second quarter."

For now, markets are still spooked, with US equities extending losses on Tuesday. 

But the drawdown is not unusual, according to Richard Steinberg, chief market strategist at The Colony Group. What was unusual to Steinberg was last year's market performance, which he called a "period of peace and prosperity."

An average drawdown of 5% for the year is very rare, he told Insider. A move of that size has only happened seven times since 1980.

The chart below shows the intra-year declines from 1980 all the way to 2021 and their corresponding returns. 

chart

"The speed of the pullback is concerning, but it is within reason," Steinberg told Insider. "As we get closer to the Fed making its move, investors should be careful. Try to be an observer rather than trying to be a hero."

 

Read the original article on Business Insider

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