The Independent Market Observer

Why “Run in Circles, Scream and Shout” Is the Wrong Response

Posted by Brad McMillan, CFA®, CFP®

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This entry was posted on Apr 19, 2017 3:43:09 PM

and tagged Investing

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run in circles, scream and shoutOne of the many blessings of having a son is that my life is rarely calm. Drama is a regular guest at the McMillan household whenever anything, however minor, happens. I do not always greet Drama with what he would consider an appropriate response, though. In fact, he usually gets a look and then a question: “Is it bleeding?” If, rarely, the answer is yes, I then ask, “Is it bleeding a lot?” If not, we discuss how the adage “When in danger or in doubt, run in circles, scream and shout” is always the wrong response.

As we are inundated with economic and political news—and the consequent drama that news entails—I find myself applying the “Is it bleeding a lot?” metric more and more. The impetus for this post was yesterday’s pullback in the U.S. stock market, an occasion that, as usual, generated calls—and drama—about whether this is the big one. So let’s look at whether the market is bleeding and, if so, by how much.

Assessing the damage

We have seen some disappointing earnings results this week, and the Dow took a hit yesterday. Arguably, there is some bleeding—but not much. Goldman Sachs was the main reason for the Dow’s decline, after a disappointing earnings report sent the stock tumbling about 4.7 percent. As the Wall Street Journal reported, the decline took about 73 points off the Dow. Since the Dow was down about 113 points yesterday, that means, aside from Goldman, the Dow lost only 40 points—or 0.2 percent. As declines go, I’ll take it.

The reason Goldman had such a disproportionate effect on the index is due to the way the index is calculated. The Dow is a price-weighted index, so higher-priced shares have more of an effect—and Goldman is the only member with a share price greater than $200. That is beneficial when the stock is rising, as the disproportionate effect is positive, but on bad days—like yesterday—it makes things look worse than they are. In fact, Goldman is down 10 percent so far in 2017 and has knocked off 163 points from the Dow, which is still up almost 4 percent. The S&P 500, which is capitalization weighted and thus less affected by pricing issues, also hasn’t been hurt much by Goldman. It is up almost 5 percent year-to-date. Markets remain quite buoyant, all things considered.

A minor wound at home, but Europe bears watching

For U.S. stock markets, then, the bleeding is minor, which brings us to the conclusion that running in circles, screaming and shouting is the wrong response. Conditions are favorable for now, and pending earnings results should give a good indication whether they will stay that way.

What does appear to be bleeding—and potentially bleeding a lot—is the political situation in Europe. France, in particular, is looking a bit scary. U.S. investors have been focused more on concerns here and less on those abroad. While screaming and shouting is still the wrong response to what’s happening overseas, a higher level of concern is not. With conditions at home solid, let’s spend some time this week looking to Europe. If things are going to start bleeding, we need to make sure we’re prepared.

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