If you've been investing regularly in the stock market over the past year, you've probably come to expect numbers that seem to grow larger with every passing day. So if you've looked at your portfolio balance lately, you may have been surprised.
On Friday, the Dow Jones industrial average (an index that tracks 30 large U.S.-based companies across all sectors) took a devilish dive of 666 points, or 2.5 percent, to close a roller coaster of a week. It continued to fall on Monday, closing down another 1,175 points, or 4.6 percent, before it began to recover on Tuesday.
Monday's drop was dramatic, but it's hardly the first time the market has fallen sharply in a day. The Dow shed 3.4 percent, for example, after Britain voted to leave the European Union (a.k.a. Brexit) in June 2016.
It’s worth noting, as you take a deep breath, that the market recovered from that drop within a week, then continued to climb. In fact, there have been plenty of days when the Dow, and other major market indexes, have fallen sharply before quickly rebounding. By Tuesday afternoon, the index had reversed course to close up more than 550 points—an upward trend that continued into Wednesday, though it slid again later in the week.
So, what's behind the drop?
The slide in stock prices was set off in part by Exxon Mobil and Chevron, two of the 30 companies the Dow tracks. The oil and gas companies both reported lower-than-expected earnings on Friday morning, and their stocks fell 5 to 6 percent by the afternoon—dragging down the entire index, which continued to slump on Monday.
When big stocks fall, that can have a short-term snowball effect, as investors see falling index numbers and panic. Falling prices can also trigger computer-generated orders, which seems to have played a factor.
Another factor in play is rising interest rates. The thinking goes that if rates go up, stock prices tend to go down. Why? For one, rising rates mean higher borrowing costs for companies (and for regular borrowers like us, too). That can hurt a company's stock price if it's borrowed a lot, as the interest it’s paying on that debt is more expensive—meaning more money will be spent paying it down, leaving less for product development, marketing, etc.
Higher rates also make investments like bonds, which pay interest, more compelling to investors. (Existing bond prices generally fall after the central bank raises interest rates. And newly issued bonds tend to offer higher interest rates to make them more attractive to buyers.) Since bonds are generally considered to be less risky, and a higher interest rate generally increases demand for bonds, that may hurt demand for stocks.
So investors started to get nervous when there was speculation that the Federal Reserve, our country's central bank, might raise interest rates last week. While it decided not to, the Fed did say it expected “further gradual” rate increases would be justified—and there's broad consensus that it will raise rates (which can affect the amount banks charge borrowers, as well as interest paid on bonds) at least three times this year.
Political unrest can also play a part. First, there was the decision last Friday by House Republicans (with the president’s approval) to release a controversial memo from House Intelligence Committee Chairman Devin Nunes related to the FBI’s investigation into President Trump’s Russia ties. Then there was the uncertainty around whether Congress would be able to pass a spending bill in time to prevent another shutdown. The market rarely reacts positively to Washington drama like this.
Just how much of an impact any one of these factors had on this sell-off is unclear. But analysts point out that temporary declines like this are completely normal. One Deutsche Bank report found that such market corrections (in which the major indexes drop 10 percent from the high) happen on average once every 18 months.
What should I do now?
Stay calm—and remember that market volatility like this isn’t unusual. Your best bet is to ignore daily movements, no matter how big, and stick with your long-term strategy. In fact, you might even look at this as a buying opportunity while good investments are on sale.
“Stay the course,” says Greg McBride, Bankrate.com’s chief financial analyst, in a statement. “This is normal, despite the very placid market environment we saw in 2017. Markets go up and down, not just up. But they go up a lot more than they go down, so hang in there and consider buying more.”
This is an updated version of an article first published earlier this week.
February 9, 2018