Editor’s note: there will be no post next week; posts will resume on March 31.
Market volatility has been extreme lately. As we at Cornerstone continue to navigate the day-to-day choppiness, we also wanted to analyze some new data, compare it to history, and see what we can expect for the rest of the quarter.
Stocks have fallen on the heels of escalating tariff wars and the subsequent fears of the fallout leading to a slowing economy. In fact, the S&P 500* fell about 10% in the past 20 trading days.
This decline is the fifth-fastest drop in 75 years. As we’ll discuss, the previous instances proved to be “rage selling” panic declines:
We think it’s notable that the 10% fall in equities surpasses the relative move in corporate bonds, which have remained fairly stable. Our take on this anomaly comes down to four main points:
- Equities reacting to the quickness and uncertainty of the tariff wars and efforts to restrain spending.
- The White House press team saying there’s no “equity put,” but there is an “economy put.”
- In contrast, the bond market sees a “Federal Reserve put” coming into play.
- For a correction to get significantly worse than a 10% loss there would have to be both a greater than 50% probability of an actual recession and no “Fed put.”
The bottom line is the decline since Feb.18 is the fifth-fastest ever. Every time something similar happened in the past, equities reversed abruptly:
We know why equities are struggling. And we think bonds have held up because the “Fed put” is back. We know this because the likelihood of a May Fed cut is now 54% compared to only 10% in January. Furthermore, the bond market has now priced in 3.4 rate cuts in 2025:
This dynamic is a positive protective divergence and supports the thesis that the 10% equities decline is a “Fire, Ready, Aim” moment due to its speed. Additionally, last week’s new economic inflation data throws cold water on the bearista inflation tantrum from January.
February’s core consumer price index, which excludes food and gas prices, was 0.23% higher on a month-over-month basis. That’s significantly better than the consensus expectation of 0.29%.
Most importantly, this number is clean as the downside read is due to important areas being relieved of inflationary pressures. This means that overall CPI was soft for the right reasons:
- Shelter cooled further.
- Recreation was the second largest contributor and slowed down significantly.
- Used car prices continued to fall.
- The second largest contributor to inflation in 2023 and 2024 – auto insurance –dramatically slowed, indicating insurers have reached sufficiency on premiums.
Consequently, we now see that 53% of the core CPI basket year-over-year inflation rates are back to trend (above the 50% average over the past 20 years):
This will strengthen the case for the Fed that inflation is being tamed, especially since February historically includes seasonal distortions. Economic data like this can help markets find equilibrium during high-velocity volatility.
Three Reasons to Stay Calm
Speaking of volatility, while we’re seeing some positive economic data points, we need to appropriately understand and analyze the current overall economic environment. It’s still leading to a cautious approach for consumers, businesses, and the markets. So, we need to revisit our volatility playbook so as not to overreact.
This lack of visibility and caution has had a dramatic effect on the economic growth forecast by the Federal Reserve Bank of Atlanta:
Additionally, the Citi U.S. Economic Surprise Index, which measures how much economic data is beating or missing consensus forecast, just went negative:
With plenty of macroeconomic worries still hanging over markets, we wanted to highlight three reasons to stay calm.
First, stocks don't need fast economic growth to appreciate. History shows the Russell 3000# still post positive returns at a high frequency when economic growth ranges from 0% to 3%:
Historically, this is when we see a “Fed put,” because weakening or slowing economic data tends to accelerate cuts.
Second, stocks follow earnings in the long term. Investors’ short term day-to-day worries rarely threaten earnings. What really hurts earnings are big, fact-based meltdowns:
Lastly, true bear markets are rare. Most of the 10% corrections recover quickly:
So, when will this volatility wash out?
Well, the current data shows significant forced “big money” selling under the surface. And forced selling prefaces forced buying.
This level of forced selling hasn’t occurred in years. “Big money” investors are de-risking equity exposure. For example, recently there were 464 discrete “big money” outflow signals in stocks on a single day:
That hasn’t happened since June 2022:
When you see red bars of this size, you can be certain that risk is being forcefully drawn down.
Trust the Data
Now let's study history to understand what to expect moving forward.
Going back to 1990, there have been only 41 days with 464 or more stock sales, per our good friends at MAPsignals. Keep in mind, the further you go back, the lower overall volumes will be because algorithmic trading was less prevalent.
With that in mind, from 2007 on, stocks tend to rise high after these big capitulation events:
Looping in MAPsignals’ trusty Big Money Index, which is a 25-day moving average of “big money” buys and sells netted, is helpful from a forward-looking perspective. When it hits oversold levels, it doesn’t last long, and stocks tend to rise quickly afterwards:
Notice the 10 times the BMI hit oversold above. The index routinely bounced off the green line.
As of this writing, the BMI is at 35.2% and trending down. At the current rate, we expect the BMI to hit oversold levels in the next seven to 10 trading days.
That hasn’t occurred since October 2023. That may sound like bad news. But to us, it's the opposite. It gives us some clarity on expectations and the quick, powerful rallies that tend to follow oversold situations.
In all 10 previous instances of the BMI going oversold there were immediate and aggressive reversions leading to market rallies. Being disciples of data guiding our outlooks, as we sit here today, we can see light at the end of the tunnel a few weeks away.
Again, historical data provides us with two key takeaways.
Number one, big stocks (S&P 500), mid-cap stocks (S&P Mid Cap 400^), and small-cap stocks (S&P SmallCap 600+) suffer together initially as the BMI heads towards oversold:
But after the BMI hits oversold levels, breathtaking rallies tend to begin.
The key in all this is to trust the data and not get lost trying to keep track of daily narratives and headlines.
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*Past performance does not guarantee future results.
*Investing involves risk and you may incur a profit or loss regardless of strategy selected.
* The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market.
#The Russell 3000 measures the performance of the largest 3,000 U.S. companies, representing approximately 96% of the investable U.S. equity market.
^ The S&P MidCap 400 tracks 400 companies that broadly represent companies with midrange market capitalization.
+The S&P SmallCap 600 is an index of small-cap stocks tracking a broad range of small-sized companies that meet specific liquidity and stability requirements.
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