Stock market sell-off: A Wall Street strategist breaks down the plunge

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traderDavid Gray/Reuters

  • US stocks were rocked on Monday, with the Dow Jones
    Industrial Average tumbling more than 1,100 points, its biggest
    single-day decline of all time.
  • Bruce Bittles, the chief investment strategist at
    Robert W. Baird & Co., attributes a big portion of the
    selling to a breakdown in the historical relationship between
    stocks and bonds.

You can run, but you can’t hide.

That’s the message the stock market delivered to frantic
investors on Monday as major US indexes were taken on a
roller-coaster ride that ended with the S&P 500 down a whopping 3.6%.

The Dow Jones Industrial Average,
meanwhile, tumbled more than 1,100 points, its biggest-ever
single-day decline.

A simple way to look at the sell-off is that the stock market was
inevitably due for a pullback after such a hot start in 2018. And
while stretched sentiment was definitely a factor, the futility
of a key investor strategy on Monday suggested something more
sinister afoot.

Put simply, buying the dip — defined as
swooping in to buy stocks when they fall to more attractive
valuations — didn’t work.

After a rough morning, the market appeared poised for a rebound
around midday, and it looked as if traders would buy on weakness.
Instead, the market succumbed to even deeper declines.

So why didn’t it work? Bruce Bittles, the chief investment
strategist at Robert W. Baird & Co., says it’s because we’re
in a different environment now.

“Up until this point, when the market dipped, interest rates went
down,” he told Business Insider by phone. “The correlation
between stocks and rates has now reversed, and that’s the problem
the market faces. You can’t depend on rates going down as the
market weakens.

“There are no safe havens with valuations at this level,” he
continued. “There’s no place to hide.”

This breakdown in long-standing market
correlations
was noted late last week by Vincent Deluard, a
macro strategist at INTL FCStone, who argued that long-term
Treasurys were “no longer a perfect hedge against stock market
volatility.”

At the root of this shift have been fears about rising inflation,
which investors are worried will prompt the type of monetary
tightening that make bonds more appealing to investors, relative
to stocks.

“You have a booming economy causing inflation fears and worries
that rates will ratchet up a lot from here, which would, in turn,
hurt consumers and businesses,” Bittles said. “It’s when rates
start rising rapidly that markets become particularly vulnerable,
and that’s what’s happening here.”

If there’s a silver lining to the stock market’s tough day, it’s
that traders have been increasing hedging activity,
heeding the warnings of strategists across Wall Street. Heading
into Monday’s bloodbath, traders were paying the most since the
2016 presidential election to protect against a decline in the
S&P 500.

But Bittles isn’t ready to let traders off the hook. He said the
toxic combination of overconfidence and complacency led investors
down this dark path, whether they knew it or not. And, perhaps
even scarier, he doesn’t think big price swings are close to
finished.

“The complacency was very deep and widespread, and that often
leads to problems,” he said. “That big rally in January caused
investors to get excessively optimistic. This is going to be a
volatile year, all year long.”


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