Stocks ended September near all-time highs, but a decidedly different tone was set early in the fourth quarter. Stocks dropped sharply in October as volatility returned, and after a brief rebound in November, the major indexes closed out 2018 with the worst showing in December since 1931. For the year, the S&P 500 dipped 4.4%. Small-cap and mid-cap indexes fared much worse. A number of potential causes for the correction could be blamed. Reviewing them helps assess whether Q4 performance was a healthy consolidation or the start of something worse.

We’ve said many times: there is always uncertainty in investing. And I for one don’t agree with the notion that any period of time is more or less certain than any other – the issues and concerns change, but there are also important unknowns. (Remember the handwringing over the Fiscal Cliff in 2013? The U.S. debt downgrade in 2011? The potentially catastrophic Macondo oil spill in the Gulf of Mexico in 2010? And, oh, the likely end of the world that Y2K would bring?)

Markets generally price-in negative news quite aggressively and then “climb a wall of worry” as clarity regarding the issue or concern improves. What new worries surfaced last quarter? Trade friction caused by seemingly disjointed policy and lack of a plan from the Trump administration isn’t new – it was already a problem for investors. That deals were signed with Mexico and Canada is positive at the margin, but the biggest uncertainty still remains unresolved: China.

The more significant new obstacles for markets, however, are anxieties about economic growth in China and around the world. Economic numbers in the U.S remain very strong, but if China is slowing demonstrably, our domestic economy can’t continue expanding at an accelerated rate indefinitely. Decelerating growth has tangible, fundamental implications for stocks as earnings growth projections would be in jeopardy. Analysts’ estimates for 2019 growth have already come down – from double digits earlier in 2018 to roughly 6-7% currently. In that regard, stock prices have already repriced for somewhat lower expectations for profitability. If growth disappoints even the lowered projections, stocks probably have more downside potential. Conversely, there’s room for a rally if growth holds up better than expected. Also remember that results can vary widely from company to company, and stock prices don’t all move in unison.

With growth fears heightened, investors also began worrying about the Fed’s path towards normalizing interest rates. The risk of the Fed making a policy mistake is higher than it was before the soft Chinese data were reported. Stocks were already trading poorly in December before the Fed followed through on a rate hike at that month’s meeting. I’m giving Fed Chairman Powell a pass on this move due to extenuating circumstance. Until now he has, much like his predecessor, communicated a clear strategy of being “data dependent.” Whether or not Powell would have paused in December in response to weaker data is moot. He didn’t have a choice. Amidst President Trump’s very public calls for the Fed to pause, Powell had to stick to the plan and hike rates lest his Fed appear to have lost its independence. Powell probably assessed that the economy is strong enough to weather one more rate hike before they become truly real-time data dependent in 2019. We agree. Global growth and resulting Fed policy are the things to watch for stock investors as we enter the New Year.