Trying to explain why the stock market is going up or down on any given day is an exercise best left to those writing news headlines who like to speculate. As time passes and the dust clears, valuation of individual stocks and their markets they trade in become more a function of their actual and projected earnings.
Volatility through the trading year kept stock valuations tough to determine. A popular process that analysts use to value stocks is based on Price Earnings (PE) ratios, calculated by dividing the current market price of a stock by its earnings per share. PE ratios for stocks began the year above 20 for all three major equity indices and finished the year near 15. The lower the PE the less expensive stocks are relative to their earnings so a drop in Pes has made stocks more appealing to value seeking investors.
Billions of dollars in pension funds are among the culprits responsible for the dramatic upswings in the equity markets towards the end of December. Pensions allocate to equities for long-term holds rather than short-term trades, boosting the overall stability of the markets.
Global equity markets experienced widespread negative returns for 2018 with both developed and emerging market indices falling. Domestic equities fared better than international stocks for the year as earnings optimism and a strong dollar helped stabilized U.S. markets.
An increase in the use of options as a hedge against market volatility increased to roughly 20 million option contracts a day being traded, surpassing previous records according to data compiled by Options Clearing Corporation. Creative option strategies have evolved as increased stock volume accompanied by consistent volatility has become the norm. Computer as well as human initiated trades have also leant to staggering trading days resulting in wild market swings as traders cover open option contracts.
Kent G. Forsey, CFP®
Source: Options Clearing Corp., Bloomberg, Federal Reserve, https://fred.stlouisfed.org/series, OneBlueWindow, LLC