What to Make of the Black Friday Market Selloff?

Some investors cut short Thanksgiving festivities last week as financial markets sold off on renewed Covid concerns.   The World Health Organization (WHO) declared the latest Covid strain Omicron a “variant of concern”, leading broad market indices to post their sharpest single-day losses in months. 

This latest designation from the WHO reflects the fact that the viral strain contains around 50 mutations, 30 more than the main target of many current Covid-19 vaccines, potentially making the virus more transmissible and existing treatments less effective. While the ongoing healthcare situation has created angst in the markets over the past two years, the virus itself is likely not the primary cause of the Black Friday selloff.

To be sure, shortly after the WHO announcement, the US, along with the Canadian, Japanese, and EU governments, announced travel restrictions on Omicron fears.  These actions prompted market concerns about renewed economic lockdowns while, at the same time, leading rallies in some stay-at-home stocks even as broader indices posted sharp declines.  After a prolonged risk-asset recovery following March 2020 lows, many investors are asking whether this latest viral development will be the catalyst for a long-awaited bear market selloff. 

Uneven Policy Transition

Now, many unknowns are surrounding the healthcare and economic implications of the latest viral outbreak.  Ever since Covid was discovered in late 2019, the WHO has designated dozens of outbreaks as “variants of concern”.  This ever-changing viral landscape has diminished the prospect of a clean break with the pandemic, leading many experts to conclude that the temporary nature of the healthcare crisis likely will shift into a long-term endemic that society will contend with for some time.

While these suggestions seem simple enough, the authors of the reports concede that such an approach would require what they consider a momentous societal shift where every stakeholder plays an important role…

For many individuals, last week’s outbreak announcement likely came as little surprise, and it’s very well possible that society at large is already accepting the inevitability that this disease will be with us for months, if not years to come.  While a transition from pandemic to endemic may seem natural at this juncture in the outbreak, the trouble for markets is that policymakers continue to rely on playbooks that focus on halting a pandemic in the near-term, rather than addressing the reality that closing businesses and shutting down the economy could cause more long-term harm than short-term benefits.

A report from McKinsey & Company suggests that in order to adapt to a new reality surrounding the healthcare crisis, policymakers should focus on a four-point approach that 1) defines the new normal, 2) tracks disease progress, 3) limits illnesses and deaths, and 4) slows transmissions.  While these suggestions seem simple enough, the authors of the reports concede that such an approach would require what they consider a momentous societal shift where every stakeholder plays an important role, this includes:

  • Governments building consensus on goals, communicating superbly, and setting the right incentives
  • Employers taking an elevated role, setting policies for their workplace and helping their employees think through the changes
  • Health systems striking the right balance among competing demands and planning for the inevitable outbreaks and surges
  • Individuals challenging the convictions they’ve developed in the past 18 months and adopting new behaviors

While such an approach seems ideal, the truth is that policy today remains largely reactionary, as evidenced in the latest travel bans.  What’s more, the US Administration’s recently introduced vaccine mandates aimed at halting the viral spread likely will only exacerbate the US supply chain issues that have contributed to higher-priced consumer goods and persistently high inflation over the past few months. 

What’s more, governments have relied on central banks to buffer the adverse effects of economic shutdowns and restrictions by increasing the availability of capital.  Today, however, this approach shows its limits as supply constraints and labor shortages, coupled with easy money policies, contribute to historic inflationary pressures. 

A Bumpy Road to Transition

Looking ahead to 2022, we believe that government and central bank policy will remain a key risk to market sentiment.  By many measures, Covid is here to stay for the long-term.  Even so, the policies employed to “flatten the curve” during the early months of the outbreak are likely not sustainable.  To some degree, easy central bank policies and fiscal spending helped offset the economic impact of shutdown measures early in the pandemic.

Even so, central bank policy is now showing the limits of its effectiveness, and the likelihood of additional monetary and fiscal support next year could be limited should US economic growth begin to stall.  That’s why we believe that a critical risk to the markets is continued myopic policy response to a long-term healthcare issue as new Covid variants and strains inevitably materialize.

On the other hand, one potential positive market narrative in the coming year likely could be the introduction of policies that reflect the endemic nature of the healthcare crisis, as outlined earlier in this report.  Such an approach could introduce pragmatic ways to live with the virus over the long-term and let go of some policies aimed at the failed hope of stopping Covid in its tracks at the cost of economic growth. 

Positioning for Policy Uncertainty

So how should you position your finances during this transition from pandemic to endemic? Well, there is little doubt that the ongoing healthcare crisis has challenged many of our financial independence plans for 2021 and beyond.  Whether you’re still saving up for your early retirement goals or have already become financially independent, now is the time to carefully consider your savings and spending strategies for the coming year.

Saving for Financial Independence

If you’re still in the accumulation phase of your financial independence journey, now’s likely a good time to take a second look at how much you’ll need to have saved to cover your post-employment lifestyle expenses in the future.  The combined effects of healthcare uncertainty and policies to curb viral spreads have put upward pressure on prices this year. 

While it’s likely that the inflation rate could slow in the months ahead, the truth is that prices of goods and services will potentially remain elevated for years to come.  Indeed, the rapid rise in home, auto, and other consumer goods has reset baseline spending needs for some individuals.  From this perspective, your role as an asset accumulator will be to ensure that the baseline financial independence savings goal you’ve defined for yourself five, ten, or twenty years down the road are consistent with the reality of higher prices today.  From there, you’ll need to determine if and to what degree your savings needs to increase today to meet your new financial independence number.

Preserving Your Financial Independence

If you’re already financially independent and living off of your savings, being prepared for a bout of market volatility while accounting for higher prices in the years ahead likely will be essential to preserving your wealth.  No one has a crystal ball on where things are headed.  That’s why during times of uncertainty, your investment process is vital to ensuring long-term financial success.  To this end, we suggest that you take a multi-pronged approach to ensure that your assets are well-positioned to provide savings longevity.

The Black Friday selloff is likely to be the first of many market fits and starts in the coming year following a strong market rally.

First, as with the accumulators, take the time to reevaluate your long-term income distribution need when factoring in higher levels of inflation and market volatility using Monte Carlo simulations.  After completing this analysis, you may find that your financial wealth could fall short of your high-confidence savings projections.  If this is the case, now may be the time to adjust your near-term lifestyle spending trends by making minor adjustments to expenses can have a significant impact on your overall savings need.

Second, stay committed to a disciplined investment process.  Periods of market uncertainty, like we experienced last week, might tempt you to go to cash in anticipation of a broader market selloff.  On the other hand, after reevaluating your savings need, you may be tempted to increase your investment risk exposure to make up for a projected savings shortfall.  Either way, when it comes to managing your wealth, focus on what you can control and stay committed to long-term outcomes.

Finally, ensure that you have enough cash on hand in the coming months to navigate periods of market uncertainty.  The last thing that you’ll want to do is sell portfolio holdings to pay for household expenses when markets are in decline.  Selling at inopportune times may lead to disappointment and reduce your likelihood of long-term retirement success, particularly if you’re not in a position to add to savings through employment income.

The Black Friday selloff is likely to be the first of many market fits and starts in the coming year following a strong market rally.  Make no mistake, inflation certainly is a concern for households, businesses and market participants alike.  Nevertheless, as we look into the coming year, we believe a key risk to market sentiment likely will be policy missteps that ignore the evolving nature of a Covid pandemic to long-term endemic.  On the other hand, policies aimed at responding quickly to healthcare concerns while eliminating restrictions that reduce commerce friction could be a positive catalyst for market sentiment.