The United States stock market has been in rough shape since September, but December so far has been particularly brutal.
The S&P 500, which the C Fund tracks, has seemingly fallen off a cliff:
Usually, December is a benign month for the markets. Since 1928, December has had the highest chance of positive returns for the S&P 500 compared to every other month.
This is often called a “Santa Rally”, where stocks do well towards the very end of the year. With many people off from work for the holidays, it’s often a light trading period without many notable news events, and market participants are most likely feeling holiday cheer.
Not this year though. So far, it is the worst-performing December for the S&P 500 since the Great Depression.
Small cap companies, represented by the S Fund in the TSP, are now officially in a bear market. This means they are more than 20% down from their recent highs. Larger companies are not far behind, just a few points shy of entering bear market territory.
The Grinch That Stole Christmas?
While there could be many reasons for a sell-off, the catalyst for last week’s one was clear.
Markets had a flat and choppy beginning of last week and started Wednesday off with a rally. But when the Federal Reserve released its widely anticipated statement at 2pm on Wednesday, followed immediately by Fed Chair Jerome Powell’s speech, markets tanked:
The market expected a bit more dovishness than they received. The Federal Reserve announced that they are raising key interest rates from 2.25% to 2.50%, and expect to increase rates two more times by 0.25% in 2019. They also expect to continue to reduce the size of the Federal Reserve balance sheet.
The Fed also mildly lowered their forecast for 2019 real GDP growth in the United States to 2.3%.
However, the Fed anticipated that unemployment rates would drop even further, from 3.7% unemployment to 3.5% unemployment.
Overall, these actions and statements by the Federal Reserve were just the catalyst for a sell off rather than the core cause. Stocks were already expensive, the economy has been in expansion mode for almost 10 years without a recession, and corporate and government debts are increasing relative to GDP.
The Federal Reserve is attempting to normalize policy to what they view as neutral interest rates. And they are reducing their balance sheet that ballooned from $800 billion to $4.5 trillion due to quantitative easing programs undertaken from 2008 to 2014.
Some analysts view it as a policy mistake for the Fed to continue raising rates and reducing its balance sheet at this time, with global growth slowing down. Others view it as a mistake years ago to have lowered rates so much in the first place, or to prop up the market with quantitative easing. Still others view Fed policy as quite reasonable, both then and now.
It remains to be seen what the markets will do in 2019, but having proper diversification can reduce your TSP account volatility. Sell-offs, bear markets, and even recessions are a natural part of the business cycle, and a good portfolio is well-prepared to ride the waves and build wealth over the long term.