The S&P 500 and the Dow Jones Industrial Average both hit all-time highs on Friday, January 26. Since then, both market indices have faltered, with the downturn accelerating over the past two trading days. Friday and Monday’s declines together wiped out year-to-date gains of over 7%. The Dow’s Monday decline of 1,175 points was the worst percentage decline in six and half years. The headlines attribute this recent downturn to Friday’s better-than-expected wage gains, which point to inflation pressure, and eventually, higher interest rates.

We outlined in our recent blog post, Emerging Euphoria, that the Fed tightening too quickly in response to inflation is, in fact, what we ultimately think will bring about the end of the current economic cycle. Overtightening would lead to higher borrowing costs for companies, which would challenge earnings growth.

However, the US 10-year treasury is currently yielding 2.7%—still quite low when compared to historical borrowing costs.

Our thesis for positive returns in 2018 remains intact. Solid economic fundamentals are still in place. Corporate earnings are on pace to grow double digits in 2018. Consumers, which constitute over two-thirds of GDP growth, are still in good shape with strong job and wage growth. Nothing has changed in the past two days to challenge either of these factors.

The equity markets are on a fifteen-month winning streak of positive performance. This has resulted in new highs and heightened valuation measures, including the forward price-to-earnings(P/E) ratio.  This last week of trading has knocked the P/E ratio down to 17.0x from 18.5x.

While it is difficult to predict when this sell-off will end, ultimately we feel the underlying fundamentals will support the market and lead to positive returns in calendar year 2018.

Individual investment positions detailed in this post should not be construed as a recommendation to purchase or sell the security. Past performance is not necessarily a guide to future performance. There are risks involved in investing, including possible loss of principal. This information is provided for informational purposes only and does not constitute a recommendation for any investment strategy, security or product described herein. Employees and/or owners of Nelson Roberts Investment Advisors, LLC may have a position securities mentioned in this post. Please contact us for a complete list of portfolio holdings. For additional information please contact us at 650-322-