“A billion here, a billion there, and pretty soon you’re talking real money.” attributed to U.S. Senator Everett McKinley Dirksen.
The first quarter of 2020 brought a tsunami of events that overturned much of the global economy and brought a sense of chaos to financial markets worldwide. Policymakers responded in a swift and decisive fashion. Senator Dirksen, quoted above, would have had to add another three zeros to what he considered “real money” based on the actions of the Federal Reserve and U.S. Congress. The Federal Reserve has increased its balance sheet by over $2.9 trillion since early March and they have indicated that their purchases of securities will continue for as long as they are needed. The fiscal policy response was equally swift and of similar size – with over $2 trillion in stimulus in addition to over $480 billion in forgivable loans to small businesses. If you had a job that paid you $1 per second you would earn your first $1 million in about 11.6 days. You would earn your first billion after 31.7 years. And after 31,700 years you would be at $1 trillion. U.S. policymakers have authorized a combined fiscal and monetary stimulus of over $5.3 trillion (so far). That is indeed “real money.” And those numbers are for the U.S. alone. Governments around the world have embarked on similar stimulus programs that are equally stunning in their scale and scope.
At least from the perspective of financial markets, policymakers have had positive and dramatic impact. Equity markets continued the rebound that began on March 23. For the quarter the S&P 500 rose 20.54%. For the year the S&P 500 has not quite reached the breakeven point, closing the quarter with a loss of 3.08% YTD. Other broad equity market indices rebounded as well but are still much further away from where they started the year. The Russell 2000 Index (U.S. small-cap stocks) was up 25.41% in the quarter, but its YTD return is a painful -12.93%. International stocks as measured by the MSCI-EAFE Index were up 14.88% in Q2, but -11.34% YTD. As has become an all too familiar pattern, growth stocks once again bettered value stocks, and the degree of separation in performance between the two is remarkable. For the quarter the Russell 1000 Growth was up 27.84%, far outpacing the 14.29% return of the Russell 1000 Value. For the year thus far the contrast between growth stocks and value stocks is even more stark. The Russell 1000 Value’s YTD return of -16.26% is woefully behind that of the Russell 1000 Growth, which has returned 9.81% YTD. And over five years the numbers are jaw-dropping: the Russell 1000 Growth returned a total of 109.04% over the trailing five years while the Russell 1000 Value’s total return was only 25.46%.
Bond markets were much more sanguine in the second quarter than the first. The Bloomberg Barclay’s US Aggregate Index rose 2.90% for the quarter, bringing its YTD return to 6.14%. The Bloomberg Barclay’s Municipal Bond 7-Year Index was up 3.31% in the second quarter and 2.28% for the year. The Treasury yield curve steepened ever so slightly in the second quarter. The short end of the curve fell – the two-year Treasury falling from a yield of 0.23% to 0.16% during the quarter. The 10-year Treasury fell only 4 basis points, from 0.70% to 0.66%, while the 30-Year Treasury yield rose, from 1.35% to 1.41%.
Where we go from here in markets is as big a conundrum as it ever has been. It would seem foolish not to anticipate further volatility, though which direction that volatility might take is uncertain. Volatility often provides opportunity as well as peril, even if that opportunity is something as simple as rebalancing portfolios. Rebalancing portfolios from bonds into stocks, even if only a small amount, in March of this year, would have generated a higher return for investors in the ensuing market rebound. Maintaining a diversified portfolio is not just about owning different types of securities, but about owning exposures to a variety of risks that allow a portfolio’s investments to move in an uncorrelated fashion. Diversified portfolios (or said another way, portfolios whose investments have lower degrees of correlation with each other) allow investors the opportunity to rebalance when markets are disrupted by a particular set of risks that impact one set of investments differently from others. Being balanced in one’s approach, and flexible in one’s thinking, are characteristics that have served long-term investors well in the past, and we expect that to continue to be the case, even (and maybe especially) in these extraordinary times.
Growing up in Houston in the 1950s I spent a lot of time playing with the kids in my neighborhood. There were no personal computers, smartphones or cable TV, online streaming, not to mention video games. If the weather was bad, we’d stay indoors and play board games. But if it was good, we’d be outside playing games in the neighborhood. One of our staples was hide-and-seek. I remember many games ending when the person who was “it” gave up and shouted out “Ollie Ollie Oxen Free” which meant that you could safely come out from your hiding place without the fear of being tagged out before you got to home base.
Over the last several weeks of “social distancing” and “sheltering in place” I’ve sometimes felt that I was in an extended game of hide-and-seek. I’ve also just assumed that sooner or later – and hoped sooner – someone would give the all clear, and I would know – with certainty – that I could come out and not have to worry about contracting COVID-19. While I still hope that will be the case at some point, I no longer think that is likely to be sooner rather than later.
I should acknowledge that speculating about the path, timeline, or ultimate impact of this virus is almost certainly a fool’s errand. There are many variables that will come into play. Even experts with similar backgrounds and qualifications have come up with a wide range of scenarios. Andrew Ross Sorkin, in the May 3rd edition of The New York Times, confessed his concern over the number of times even Warren Buffett responded to questions at Berkshire Hathaway’s annual meeting, saying “I don’t know.” If the crystal ball of the “Oracle of Omaha” is cloudy, we mere mortals should no doubt tread carefully.
In addition to a lot of “I don’t knows,” however, Buffett said something else: “The American miracle, the American magic has always prevailed and it will do so again.” We share Mr. Buffet’s conviction in America and its resiliency, realizing that achieving that resilience may take some time.
Unfortunately, what happens in the meantime can only be the subject of speculation. We could spin out lots of different scenarios and try to assign probabilities to each, but the fact is we don’t know and neither does anyone else. Under almost any scenario, however, it would seem we could go through an extended period of time without hearing “Ollie Ollie Oxen Free.”
If you look at the three phenomena we’re confronting here – a public health phenomenon, an economic phenomenon, and a financial markets phenomenon – it’s interesting to consider the extent to which the three are in sync with one another. In simple terms, the data on the public health and economic phenomena are bad and may get worse, and the data on the financial markets is good – if the S&P 500 within 20% of its all-time high qualifies as good – and may get better. So what’s wrong with this picture? Maybe nothing. Maybe there’s a good reason the financial markets seem to have decoupled from the underlying public health and economic phenomena. The financial markets are by nature anticipatory. They always look forward. There’s been an enormous amount of liquidity injected into the economy and financial markets, which may be felt unevenly over time. But in the spirit of hoping for the best, yet preparing for the worst, we also have to acknowledge that the financial markets may have been overly enthusiastic, which is to say the scenario they’re discounting is not nearly so protracted and difficult as the one that will possibly materialize.
If that turns out to be the case it would probably mean additional volatility for a longer period of time. That can certainly be unsettling; though the effects of volatility can be dampened to some degree by being well-diversified. Volatility also presents opportunities, in the form of portfolio rebalancing, tax-loss harvesting, and gifting and other planning possibilities.
So “Ollie Ollie Oxen Free”? Probably not for a while. But in the meantime – which may be a while – we are preparing for further volatility while continuing to invest through a long-term lens. We think there will continue to be opportunities that present themselves and plenty of other constructive work to be done along the way.
For a discussion of specific planning options that may currently be of interest, please see the April 24 blog post on the RGT website by our partner, Mike Shockley, titled “Planning Opportunities During the COVID-19 Era”.
Please reach out to RGT if you would like to discuss your portfolio in more detail.
As RGT settles into the new normal during the COVID-19 pandemic, monitoring asset allocation and opportunistic rebalancing are underway. Long-term planning continues to be front and center on our radar screen. With the passage of the CARES Act last month and the recent market declines, we would like to share several planning ideas that you may wish to discuss further with your advisory team.
No Required Minimum Distributions (RMDs) for 2020
Last year, the SECURE Act increased the age at which RMDs are required to begin to age 72. The CARES Act has suspended all RMDs for IRAs, Inherited IRAs and tax-qualified defined contribution plans for 2020. This is a meaningful benefit for account holders who have seen their retirement balances decline, hopefully providing time for their investments to recover. If the RMD was made within the last 60 days, the distribution may be rolled back into an IRA account and will not be subject to income taxation. Please note, the 60-day rollover exception does not apply to Inherited IRAs.
Impacted Account Holders Eligible for Coronavirus-Related Retirement Plan Distributions
The CARES Act offers a penalty-free withdrawal (up to a $100,000 maximum) from an employer-sponsored retirement plan and/or an Individual Retirement Account (IRA) for those qualified individuals who have not yet reached age 59.5. The term qualified requires the account holder (or their spouse) to have been diagnosed with COVID-19 or have experienced certain other financial consequences due to being quarantined, furloughed or laid off (or other factors).
This distribution is not subject to the 10% early withdrawal penalty or to the 20% mandatory tax withholding. The taxation of the distribution may be ratably spread over the next three years. Additionally, this distribution can be paid back within three years without recognition of taxable income. If some, or all, of this distribution is going to be paid back but taxes have been paid on the distribution, an amended return may need to be filed to obtain a refund.
On a side note, the CARES Act also includes an increase in the loan amount from employer-sponsored retirement plans to 100% of the vested balance, up to a maximum of $100,000 for qualified account owners. As the Coronavirus-Related Retirement Plan Distribution and the increased loan amount are not automatic benefits, please check with your plan administrator to confirm that these options are available to you.
Converting Traditional IRAs to ROTH IRAs
Given current declines in the value of retirement accounts and the elimination of the stretch IRA benefit via the SECURE Act, converting a Traditional IRA to a ROTH IRA may be something to consider. While this conversion is subject to ordinary income tax rates in the year of conversion, doing so when asset values are depressed will help lower the income tax impact. Additionally, ROTH IRAs will not be subject to any further taxation nor are there any RMDs required for the ROTH IRA account owner. Investments in the ROTH IRA accumulate tax-free over the account owner’s lifetime. Once the ROTH IRA transfers to a non-spouse beneficiary (e.g., children), the account must be fully distributed within 10 years, also on a tax-free basis.
Increased AGI Threshold for Charitable Cash Contributions
The CARES Act has temporarily increased the 60% Adjusted Gross Income limit for deducting cash contributions to public charities to 100%, which may allow taxpayers to eliminate their 2020 tax liability. It is important to note that gifts of highly appreciated securities (or other property) or contributions to Donor Advised Funds do not qualify. An interesting planning opportunity arises when considering a ROTH IRA conversion along with increased charitable giving. It may be possible to offset the income tax liability generated from the ROTH conversion by making qualified charitable cash contributions. However, before breaking out your checkbook, make sure to consult your CPA so they can help determine the best solution for the timing of your charitable contributions.
Gifting and Other Wealth Transfer Strategies
Depressed asset valuations coupled with the current estate tax exemption amount ($11.58 million per person) presents an estate planning opportunity. Interest rates are at historic lows and business valuations may continue to decline due to the economic impact of COVID-19. The current estate tax exemption limits are set to decrease to $5 million per person in 2026 (adjusted for inflation) unless new legislation is passed prior. The timing may be ideal to coordinate with your estate planning team to review generational wealth transfer strategies and asset freezing techniques such as gifting or selling assets to Irrevocable Trusts.
We welcome an opportunity to review these planning strategies with you.
“There are decades where nothing happens; and there are weeks where decades happen.” Vladimir Ilyich Lenin.
The quote above has been revisited quite a bit these days because it seems to perfectly capture our current situation. Just a few short weeks ago we had 110 successive months of job growth in the U.S., a bull market in excess of 10 years, the world economy was globalized, companies managed inventories ‘just-in-time,’ we had traffic jams, meetings, and corporate debt. And then, just like that, the world changed. There were roughly 10 million jobless claims in two weeks, we entered a bear market in a record 16 trading days, the world economy is becoming more decoupled, companies (and people) are stockpiling, freeways are all but empty, meetings for many are exclusively online, and corporate debt is in the process of being replaced by government debt. And that’s just a fraction of what has happened in the last few weeks.
On February 19 the S&P 500 closed at 3386.15, up 5.1% for the year, the Russell 2000 was up 1.6%, and the MSCI-EAFE was down -0.8%. Then the trajectory of financial markets reversed. The S&P 500 ended the quarter down -19.6%, the Russell 2000 was down -30.6%, and the MSCI-EAFE was down -22.8%. But these quarter-end numbers bely the severity of the intra-quarter collapse. From its intraday peak on February 19 to its intraday low on March 23 the S&P 500 dropped -35.4%. After the passage of a $2 trillion plus economic rescue package by Congress and aggressive monetary easing by the Federal Reserve, the S&P 500 rebounded 15.2% prior to quarter’s end.
The market sell-off was indiscriminate with all sectors of the market suffering deep losses. But as the market settled a bit, there began to emerge more distinct differences in performance across market sectors. By the end of the quarter Technology (-11.9%), Health Care (-12.7%), and Consumer Staples (-12.7%) were the best performing sectors. Energy (-50.5%) which was clobbered by the one-two punch of both the abrupt cessation of economic activity and a price war between OPEC and Russia, Financials (-31.9%), and Industrials (-27.0%) were the worst performing sectors. And the long-standing outperformance of growth stocks relative to value stocks continued, with the Russell 1000 Growth dropping -14.1% while the Russell 1000 Value fell -26.7%.
Bonds fared better; but still experienced a volatile quarter. The Bloomberg Municipal Bond 7-Year Index was down -1.0%, while the Bloomberg U.S. Aggregate was up 3.2%, largely based on a strong rally in the price of U.S. Treasuries. The 10-Year Treasury yield stood at 1.56% on February 19. As Treasury prices soared due to a swift and sudden flight to quality, yields on 10-Year U.S. Treasuries plummeted to a low of 0.54% on March 9, rose back to 1.18% on March 18, before falling again to 0.70% by quarters end. Corporate bonds, however, fared worse than municipal bonds and U.S. Treasuries due to fears over their credit risk. The Bloomberg Barclays U.S. Corporate Investment Grade Index fell -3.6% for the quarter. High yield bonds declined even more, with the Bloomberg Barclays High Yield U.S. Corporate Index falling -12.7%.
We posted a piece on February 28 addressing the looming threat of the Coronavirus. We still do not know how long this crisis will last or how severe it will be when all is said and done. But the key takeaways from our earlier piece still hold true today, and we would like to reiterate those points as we look forward today. Asset allocation is valuable and is meant to lessen the impact of stock market losses, not eliminate them entirely, so that you don’t succumb to the urge to sell stocks into weakness. Cash reserves earn very little, but we don’t believe that taking on additional risks to achieve marginally higher yields on cash is worth that extra risk. Rebalancing and tax loss selling are opportunities, and you don’t have to get the timing exactly right to take advantage. Remember, you own stocks for a multi-year time horizon, not for what happens in a week, a month, or a year. Market corrections and bear markets can be an opportunity to put cash to work at lower valuations or to rebalance a portfolio into higher quality opportunities at lower prices than were available until recently.
Just ten weeks ago, investors were coming off one of the best years in a decade for a broad swath of financial assets. The S&P 500 rose by 31.5% and bonds, as measured by the Bloomberg Barclays U.S. Aggregate Index, increased by a dramatic 8.7%. Almost everything good that could happen for investors did happen. What a difference a couple of months makes. With each passing week, markets now seem to be confronted with yet another unexpected piece of news or negative turn of events. The list over the last three weeks alone would be enough to fill an entire year:
- The rapid spread of COVID-19 outside of China not only led to volatility in stock and bond markets, the likes of which we have not seen since the Global Financial Crisis, it has also severely disrupted daily life and travel plans for many around the globe.
- The tenor of the U.S. presidential election shifted substantially as a more moderate candidate emerged to challenge progressive frontrunners at the same time the economic outlook darkens.
- Instead of bolstering confidence, an unexpected emergency interest rate cut from the Federal Reserve confirmed investor concerns of an underlying shift in corporate and economic fundamentals and signaled a potential return to zero interest rate policy.
- Over this past weekend, an alliance of oil producing countries known as OPEC+ fractured, leading oil prices to decline almost 25% in a single day and causing significant declines in the prices of stocks and bonds issued by many well-known energy companies.
Collectively, these events have had a significant impact on the equity positions within investor portfolios and driven long-term interest rates to record lows in the U.S. Uncertainty and worry have turned the market upside down in short order. The speed of the transition suggests the market has gone from pricing assets as if nothing negative would ever happen again to pricing them as if the worst possible outcome is now unavoidable. As risk gets re-priced and sentiment turns negative, government bonds are trading at levels more consistent with a recession environment and stocks are trading slightly above levels that would mark the first official bear market in over 12 years.
It’s important to remember that RGT has been in business for 35 years and has the requisite experience to manage through market disruptions such as this. While each disruption is different, experience is valuable when navigating turbulent market environments.
RGT is preparing for a longer grind than many market pundits are indicating today and one with more frequent bouts of volatility. A technical recession, defined as two quarters of negative GDP growth, or even something more protracted are real possibilities. While we view many of today’s events such as COVID-19 as transitory, economic damage has been inflicted. Corporate investment is slowing, and consumer spending is shifting while risk aversion increases. While the ultimate length of time required for markets to find a bottom, and the ultimate level of that market bottom is unknowable, there are a few silver linings in play.
RGT client portfolios came into this environment balanced and well-positioned. Not only have bonds helped mitigate losses and reduce volatility during this market turmoil, high-quality bonds have performed very well. Our investment philosophy is guided by thoughtful asset allocation and diversification, two pillars that we have stood by when many abandoned them during this period of low interest rates and an uninterrupted bull market. Consequently, we have what we believe is a solid foundation from which we can manage portfolios through this environment as there are no dramatic, rash decisions to be made. Like sailing through choppy waters, marginal adjustments are much better (and easier to make) than wholesale portfolio changes.
We utilize a platform of experienced investment managers continuously focused on improving their portfolio’s risk and return profile. We regularly speak with these managers and are currently deep in the process of speaking to them about the present landscape. These conversations, which are already bearing fruit and informing our views, have reminded us of the value our managers bring in helping us make more informed, marginal changes to portfolios during volatile periods. We believe utilizing managers as a resource to stay current on how the economy and specific companies are performing is an advantage. We loathe the thought of having to look at a portfolio made up entirely of ETFs, quantitative strategies, and index funds that don’t say a word, and make no changes to their portfolios, when times are tough.
Given the significant performance differential over the last month between bonds and stocks, we are now actively looking for rebalancing opportunities between asset classes and other strategies where performance has diverged. We expect a series of smaller changes to be made over the course of months, not days. While this process can be tedious and is often dependent on individual client or family circumstances, it is a disciplined and unemotional act of strategically working to buy low and sell high. Rebalancing also allows us the opportunity to reset portfolio exposures back to longer-term targets.
Finally, it is worth noting that as riskier assets, such as stocks, decline in value they inherently become cheaper. This ultimately improves future returns, perhaps dramatically if the decline is steep or growth ends up surprising to the upside. The ultimate length and depth of economic disruption is anyone’s guess, but stocks have improved return prospects on both an absolute basis and relative to bonds, especially as interest rates plumb record lows. An investor with a long-term time horizon and no need for immediate liquidity will thus be more appropriately compensated for owning risk assets going forward.
As markets continue to fluctuate, sometimes wildly and unpredictably, it is important to remind yourself that these types of environments often give rise to significant opportunities. Current losses aren’t permanent when markets decline despite how uncomfortable it can be along the way. Maintaining a disciplined and deliberate approach centered around a long-term strategic asset allocation increases the probability of participating more fully in higher-returning environments. Responding from a balanced position also makes it easier to identify and invest in compelling opportunities when they arise.
Please let your RGT advisor know if you would like to discuss these ideas.
Despite all the concerns surrounding COVID-19 (see RGT’s thoughts here) and yesterday’s surprise 50bps reduction in the Fed Funds rate, it’s hard to forget that this year is an election year. We all know what that means: incessant media coverage of candidate personalities and their policy proposals – caricatures and unrealistic talking points, mainly. Many policy proposals, regardless of which side of the aisle they come from, would likely have a direct impact on your investment portfolios: higher capital gains taxes, financial transaction taxes, taxation on unrealized gains, or various regulatory changes. Other policy proposals may have a more indirect, though no less impactful, effect as they consider broader issues that could spur or hinder both domestic and global economic growth.
“Reports that say that something hasn’t happened are always interesting to me, because as we know, there are known knowns; there are things we know we know. We also know there are known unknowns; that is to say we know there are some things we do not know. But there are also unknown unknowns—the ones we don’t know we don’t know. And if one looks throughout the history of our country and other free countries, it is the latter category that tend to be the difficult ones.” U.S. Secretary of Defense Donald Rumsfeld, February 12, 2002.
We began the year 126 months into the longest economic expansion in U.S. history. On February 19, 2020 the S&P 500 closed at an all-time high of 3,386.15 (as a point of comparison, the S&P 500 reached its nadir following the Great Financial Crisis on March 9, 2009 at a closing level of 676.53). Most market concerns at the beginning of 2020 centered around volatility due to contentious U.S. elections, continued tensions around trade, somewhat stretched valuations for financial assets, and the simple fact that the expansion, and the bull market, were getting somewhat long in the tooth.
Typically, though, it’s not the things that the market worries about, the “known unknowns,” that bring about violent downturns in financial markets. A great example of a “known unknown” is the Y2K crisis. We were warned about Y2K years in advance. It received large amounts of media attention, but because it was known and years had been spent addressing the problem the impact of Y2K was negligible. Instead it’s the event that no one sees coming, the “unknown unknown,” that is potentially the most problematic for markets. The Coronavirus, now known as COVID-19, is a perfect example of the kind of shock that the “unknown unknown” can have on markets.
When an “unknown unknown” shock occurs markets often react in dramatic fashion. That’s because mar
kets are forward-looking, and they now must add a variable that they had heretofore not considered. But beyond that, the simplest explanation is that most humans fear the unknown. And fear has a way of creating quick and extreme reactions, which often turn into overreactions.
Financial markets are a perfect environment in which to see this sort of human behavior on display.
- Since the market close last Friday, February 21, the S&P 500 has dropped 11.4% through the close of trading on Friday, February 28. Foreign stocks, as represented by the MSCI-EAFE fell 6.7% over that same time frame.
- The last week has been the worst week in the U.S. stock market since the 2008 Financial Crisis.
- The 10-year Treasury is at all-time lows dropping from 1.46% on Friday, February 21 to 1.17% on Friday, February 28.
- Oil prices have fallen over $8/Bbl, or more than 15%, in a week’s time.
The last week has been a prime example of a reaction driven by the fear of the unknown. Let us stress as strongly as possible, almost everything about COVID-19 and its ultimate impact on financial markets is unknown. Another point worth noting is that reacting to unknown threats is not illogical. In fact, it’s an important human survival trait. However, it is not necessarily the best way to respond in your investment portfolio.
If indeed COVID-19 turns into a pandemic, it will not be the first pandemic of this sort with which markets have had to deal. The 2009 Swine Flu Pandemic (H1N1/09), which lasted from early 2009 to 2010, is the most recent example. Somewhere between 10 million to 200 million people are estimated to have contracted H1N1/09[i]. The exact number of deaths are not known, though one estimate puts the estimated number of deaths worldwide at somewhere between 105,700-395,600[ii].
Negative views make for great media fodder and feed into the market sell-off frenzy. But the latest news out of China, which has been the nation hardest hit by COVID-19, is beginning to seem more positive. While there will no doubt be an adverse impact on Chinese demand and output, it appears that the containment efforts by the Chinese government are starting to make an impact on the rate of transmission of the disease, which should be encouraging. Nonetheless, there is no visibility into the duration of the health crisis or to what extent this disease will ultimately spread.
What can we learn from history?
- These types of events are transitory. The key question becomes how the event lasts.
- Currently investors view the risks as to the downside, thus the violent sell-off of stocks and other “risky” assets and the rise in prices for U.S. Treasuries and other safe-haven assets. And as often happens, once markets begin to sell-off, pressure for other investors to sell rises.
- The long-term risks faced by investors are more about how the economy (and thus revenues and earnings) is impacted and for how long. If this follows the most recent global pandemics, then the economic impact should be temporary and it’s possible that markets rebound nearly as fast as they sold off.
Key Takeaways for Investors
- Right now, there is no visibility into the length of the health crisis. Thus, attempting to make a call on how this plays out from an economic and market perspective would be futile. Assuming the worst outcome is no more helpful than assuming the best outcome.
- Asset allocation is showing itself to be valuable during the latest market sell-off. Make sure your investment plan and asset allocation fit your circumstances. Well diversified portfolios are designed to lessen the impact of stock market losses, not to eliminate them entirely. The key is to be able to help mitigate your losses thereby easing your compulsion to feel the need to sell at market lows. If you can do this, you should you be better position to participate when markets recover.
- Cash for defense is just that, cash. But right now, you earn very little on cash. So, if you feel the need to get defensive in this way, you can’t concern yourself with return.
- Rebalancing and tax loss selling opportunities may present themselves. If you have a long-term outlook you should avail yourself of these opportunities, without an emphasis on trying to have perfect timing.
- Remember, you own stocks for a multi-year time horizon, not for what happens in a week, a month, or even a year. If you have cash to invest, market corrections like this can provide an opportunity to put it to work at lower valuations, thus potentially enhancing prospective long-term returns.
If you have any questions or concerns about these matters and how they impact your portfolio and your financial situation, please contact your RGT advisor.
[i] “Report of the Review Committee on the Functioning of the International Health Regulations (2005) in relation to Pandemic (H1N1) 2009” (PDF). 5 May 2011. Archived (PDF) from the original on 14 May 2015. Retrieved 1 March 2015.
[ii] Dawood FS, Iuliano AD, Reed C, et al. (September 2012). “Estimated global mortality associated with the first 12 months of 2009 pandemic influenza A H1N1 virus circulation: a modelling study”. The Lancet. Infectious Diseases. 12 (9): 687–95. doi:10.1016/S1473-3099(12)70121-4. PMID 22738893.
“If you keep facing in the right direction, all you need to do is keep on walking.” Buddhist saying
At the start of a new decade we are bombarded with a plethora of reviews and “best of” articles for the last ten years. Contemplating the investment results of the last ten years, it’s helpful to look back and remember the environment investors faced at the dawn of the last decade. In the first quarter of 2010 the U.S. economy posted its third consecutive quarter of growth, but the National Bureau of Economic Research had yet to declare the end of the recession. Much of the growth from the previous quarters was attributed to extraordinary government stimulus – remember TARP, TALF, and Cash for Clunkers? The unemployment rate in January 2010 was 9.8%. U.S. government debt outstanding was approaching $13 trillion, the budget deficit was approximately $1.3 trillion, and the House Budget Commission estimated the national debt would grow to $18-$20 trillion by 2020. Interest rates were low, the 6-month T-Bill yielding 0.18%, the 2-year Treasury 1.09%, the 10-year Treasury 3.85% and the 30-year Treasury 4.65%. We were coming off a year where the S&P 500 returned 26.5% but that return was eclipsed by the 79.0% return of the MSCI Emerging Markets Index. Off that stellar performance many market pundits were touting Emerging Market stocks as the growth engine for the coming decade.
Fast forward ten years – the economic expansion that was nascent in early 2010 continued uninterrupted for the next ten years. Unemployment fell all the way to 3.5% by November 2019. While the 2019 federal budget deficit, projected to come in at $984 billion by the Congressional Budget Office, is less than the annual deficit of 2010, the total federal debt is projected to exceed $23 trillion in early 2020 by Truth in Accounting. Interest rates rose on the short end of the yield curve with the 6-month T-Bill rising from 0.18% to 1.60% and the 2-year Treasury up from 1.09% to 1.58%. On the long end of the curve, however, rates fell – the 10-year Treasury from 3.85% to 1.92% and the 30-year Treasury from 4.65% to 2.39%. This “bear flattening” of the yield curve was a boon for investors in longer-dated bonds, but a bust for investors who kept their interest rate exposure short. And it was not Emerging Market stocks that performed best, but large-cap U.S. Stocks as represented by the S&P 500, which returned a cumulative 246.79% for the decade, its only year of negative performance coming in 2018 at -4.38%.
Coming off a dismal end to 2018, investors began 2019 in a cautious mood. But markets have a way of surprising us, and the S&P 500’s return of 31.49% in 2019 was its best return since 2013 (32.39%) and its second-best annual return since 1997. Other major stock indices enjoyed strong returns in 2019 as well, with the Russell 2000 up 25.52% and the MSCI-EAFE Index gaining 22.01%. The outperformance of U.S. stocks relative to foreign stocks (S&P 500 vs. MSCI-EAFE) marked the eighth time in the last ten years the S&P 500 had larger gains than the MSCI-EAFE. But investors would do well to remember that in the ten years before that (2000-2009) the MSCI-EAFE outperformed the S&P 500 in seven of those ten years.
Bond markets also enjoyed a strong 2019, the broad Bloomberg Barclays U.S. Aggregate Index up over 8% and the Bloomberg Barclays Municipal Bond 5-Year Index up over 5%. Much of the returns in bonds was driven by a decline in interest rates. The 10-year U.S. Treasury opened the year yielding 2.66% and finished the year with a yield of 1.92%. The 2-year Treasury yield fell from 2.50% to 1.58% and the 30-year Treasury fell from 2.97% to 2.39%. And thus, the last year of the decade was somewhat emblematic of the decade, starting off with trepidation yet ending the year with stronger-than-expected performance for both stocks and bonds.
Hopefully this little walk down memory lane highlights how difficult it is to imagine how the next ten years might play out. Making the right 10-year predictions based on one’s assessment of the current market environment is an exceedingly difficult task. Developing the appropriate strategic investment plan, though, at least gets you facing in the right direction. The trick is to stay disciplined, to “keep on walking,” despite the temptations to stop and change course based on the emotions of the moment.