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Market Volatility: Goldilocks In Peril?

Market Volatility: Goldilocks In Peril? by Robert McConnaughey, Columbia Threadneedle Investments

  • We have been in a “Goldilocks” economy, where growth was persistent, but still modest enough to be supported by central bank easing at any sign of weakness.
  • That backdrop is changing, with stresses emanating from the emerging markets and limits to incremental central bank actions.
  • However, we do not see a structural crisis at hand and interesting opportunities are being revealed in the recent sell-off.

In the years since the financial crisis, we have been in what many observers have termed a “Goldilocks” economy where growth was persistent, but it was still modest enough to be supported by central bank easing at any sign of weakness. This backdrop allowed for healthy market returns for quite some time. However, this past week’s broad market decline raises questions as to whether there are cracks in the “not too hot, not too cold” economic storyline. I believe there are significant challenges to that backdrop persisting. However, such a shift does not mean that we need to run for the hills. We may need to be selective, but there are definitely interesting opportunities arising to find great entry points amidst the sell-off. Let’s examine the keys to what had been a “win-win” environment along with what has changed in order to determine a path to choose from this point forward.

Emerging market growth no longer lifting all boats

Even if modest, there has been enough overall growth to keep the engines of recovery humming. Emerging market growth well in excess of developed markets, led by Chinese strength, had been an important pillar of this backdrop. The difference now is that emerging market growth is faltering badly, with particular concerns regarding uncertainties in China. While official Chinese data is always controversial, it is increasingly clear from other specific and confirmable economic activity data that the official 7% GDP target is unlikely to be achieved in any sustainable manner.

More central bank largesse may not be the answer

Through the recovery, each setback in growth was met with forceful central bank action (at least credible threat of action). Good news was good for markets and modestly bad news was also, as it signaled more easing. U.S. Fed action was followed by European and Japanese easing and, more recently, the new big player on the scene, China, getting into the mix. But this raises two concerns. First, the incremental outlook for the central bank...