Markets in a Minute: Stock vs. Bond Volatility
Earlier this summer, my family and I took a long-overdue trip to Disneyland, where we rode more than our fair share of roller coasters. My kids usually gave the highest marks to whatever ride had the biggest upticks, steepest drops, and fastest turns.
I, on the other hand, preferred the lazy boat rides with corny jokes and easygoing Ferris wheels. Having experienced the dramatic upticks and heart-thumping drops in the markets so far this year, I felt I already had my fair share of thrills. Those who have been following the markets closely this year may have agreed with me. For long-term investors, a little bit of speed and spins from time to time will keep things interesting, but too much too quickly can make the ride more stressful than fun.
Why 2022 Has Been Unique
Year-To-Date 2022 Index Returns
Past performance is not a reliable indicator of current or future results. Indexes are unmanaged and not subject to fees. It is not possible to invest directly in an index. Note: views are from a U.S. dollar perspective. Source: Kestra Investment Management with data from FactSet. Index proxies: Bloomberg Municipal Bond Index, Bloomberg US AGG Bond Index, S&P US TIPS, ICE BofA US High Yield, S&P 500, MSCI World ex USA, MSCI EM, Dow Jones US Select REIT, Dow Jones Global X US & Bloomberg Commodity Index. Data as of August 30, 2022.
If you’ve been investing long enough, you’ve likely experienced these roller-coaster-like periods of volatility and understand it’s a normal occurrence in the market that won’t last forever. But what makes this year different from other periods of increased volatility is that we’ve seen large swings in both stocks and bonds. In fact, nearly every asset class is in negative territory so far this year.
Volatility, as measured by the CBOE Volatility Index (VIX), is often inversely correlated with equities – as fear rises, stocks tend to fall. In fact, VIX levels over 30 are often associated with bear markets. Sure enough, about halfway through 2022, the VIX rose to 34.02 just as the S&P 500 touched down more than 20% year-to-date, meeting the bear market definition. During that slide, it reached its highest level since the start of Covid. This “fear index” uses options to measure the expected market volatility for the next 30 days.
Stock Volatility Has Been Inversely Correlated to Stocks: VIX Index
Forward looking estimates may not come to pass. Past performance is no guarantee of future results. Source: Kestra Investment Management, Chicago Board Options Exchange and FactSet. Index proxy: VIX Index & S&P 500. Data as of August 29, 2022.
More recently, this inverse relationship has continued. As stocks rallied from June to August, the VIX declined from 34 to 20, near its historical average. Then from mid-Aug to the end of the month, we saw the reverse: stocks retreated and the VIX rallied.
While many long-term equity investors have come to expect downturns, what has been unique about the recent experience is that bonds have been weak at the same time as stocks. And while stock volatility has subsided, bond volatility remains near historic highs. Similar to the VIX index, the MOVE index measures US Treasury rate volatility through options pricing, and we haven’t seen swings this large since the global financial crisis.
Bond Volatility Remains Elevated: MOVE Index
Forward looking estimates may not come to pass. Past performance is no guarantee of future results. Source: Kestra Investment Management, Chicago Board Options Exchange and FactSet. Index proxy: VIX Index & MOVE Index. Data as of August 22, 2022.
This elevated level of uncertainty corresponded to unusually weak fixed-income returns in the first half of the year. US Treasuries, for instance, delivered the worst six-month performance since 1973, down 11%. Similarly, the broad US Aggregate Bond Index declined over 10% over that same time frame.
But What’s Causing All of This Volatility?
Markets have had their fair share of things to worry about this year:
- The Federal Reserve has rapidly tightened monetary policy, raising interest rates and reducing the number of bonds it owns.
- US inflation skyrocketed to 9.1% in June, the highest it’s been since 1981.
- After Q2 GDP growth dropped by .06%, investors remain concerned about the possibility of a full-blown recession.
What Does This Mean for Your Portfolio?
- These fear indexes can be helpful indicators. At extremes, very high levels of the VIX can correspond with turning points in stocks. In March 2020, the VIX reached over 80 – a clear sign of panic in the markets – just a few days before the S&P 500 began to rally.
- Despite elevated volatility in the bond market, bonds still exhibit much lower risk than stocks. As such, they continue to play the same critical role they always have: bonds help lower a portfolio’s exposure to risk and buffer returns over the long haul.
S&P 500 and Bloomberg U.S. Aggregate
Past performance is not a reliable indicator of current or future results. Indexes are unmanaged and not subject to fees. It is not possible to invest directly in an index. Source: Kestra Investment Management with data from FactSet. Index proxies: S&P 500 Index and Bloomberg U.S. Agg Index. Data as of August 30, 2022.
Remember, investing is a marathon, not a sprint. A well-designed, diversified portfolio can help provide a smoother ride over the longer term. Still, there can be an occasional roller coaster ride that actually provides opportunities. As Robert Arnott, a well-known investor, once said, “in investing, what is comfortable is rarely profitable.”
If you’re concerned about the fluctuating markets, make sure you work with your advisor to diversify your investments to ensure you’ve added a metaphorical seatbelt to protect your portfolio and help you achieve your long-term financial goals!
Invest wisely and live richly,
The opinions expressed in this commentary are those of the author and may not necessarily reflect those held by Kestra Advisor Services Holdings C, Inc., d/b/a Kestra Holdings, and its subsidiaries, including, but not limited to, Kestra Advisory Services, LLC, Kestra Investment Services, LLC, Bluespring Wealth Partners, LLC, and Grove Point Financial, LLC. The material is for informational purposes only. It 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. It is not guaranteed by any entity for accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was created to provide accurate and reliable information on the subjects covered but should not be regarded as a complete analysis of these subjects. It is not intended to provide specific legal, tax or other professional advice. The services of an appropriate professional should be sought regarding your individual situation. Kestra Advisor Services Holdings C, Inc., d/b/a Kestra Holdings, and its subsidiaries, including, but not limited to, Kestra Advisory Services, LLC, Kestra Investment Services, LLC, Bluespring Wealth Partners, LLC, and Grove Point Financial, LLC. Does not offer tax or legal advice.