More evidence from Fidelity about the futility of trying to time the market. One of the great things about Fidelity is that they have access to a tremendous amount of data within their 401k division. In this study they looked at 12 million participants to understand their behavior during the financial collapse and ensuing recovery. The chart below shows how different participants fared:
Participants who did nothing different saw major increases in their account balances while those who thought they could time the market (by getting out and waiting for the investment markets to “get better”) saw small gains, which were primarily through their own and employer contributions. We wrote a white paper on why it is so important for investors to continue to save and invest through bear markets. Because investments become more attractive during these periods, most good investors realize that it is during bear markets where real wealth is created.
We often tell our clients that diversification is one of the only free lunches when investing. By adding investments that don’t correlate with each other to an overall portfolio, you have the ability to either increase return and/or decrease risk, the holy grail for investors. Over the past couple months we’ve heard from some clients that their portfolio has been trailing the S&P 500. This is true, since the S&P has been one of the best investments we can choose. Adding any other investment to the best performing part of a portfolio has to bring down performance. But over time, this strategy of diversification works, as evidenced by a new chart by Blackrock:
The chart shows how a highly diversified portfolio (US stocks, foreign stocks, government bonds, corporate bonds) has outperformed a traditional portfolio (US stocks and bonds). While this chart goes back 14 years, there is ample evidence to show that this strategy works over longer periods as well. For those investors who compare their diversified portfolio to a single index, please be aware of this truth. From time to time you will be very disappointed. At other times, you will be ecstatic. But over your investing lifetime, diversification adds real value that cannot be ignored.
Today the S&P/Case-Shiller Home Price Index was released showing a 12% gain in home prices since last year. This along with anecdotal evidence of bidding wars, low inventory and much higher demand gives us more proof that the housing market is healing. Here is the chart from this morning showing the roller coaster ride we’ve been on:
House prices are back to their 2004 levels, and while no one is claiming we are going back to the ridiculous market of 2003-2006, improvements are being made. This is important on a few levels:
- Underwater mortgages- as home prices grow, more homeowners who were underwater on their mortgages are finally back into a positive equity position. This means that they are able to sell their house, move to better opportunities, borrow addition funds to fund house projects or businesses, and live with less fear of a owing more than you own.
- Household net worth- since housing is the largest components of most family’s net worth, the comeback in prices helps improves family balance sheets, by growing the asset side of the ledger.
- Animal spirits- when we see the value of our home increase, we are more apt to be optimistic about our own prospects. We may feel more comfortable to start a business, buy investments or spend money. These “animal spirits” tend to be important in driving economic growth.
Look for this continued improvement in the housing market to help the overall economy in terms of jobs, consumer spending and confidence.
Last week we saw everything sell off…US stocks, foreign stocks, REITs, US bonds, commodities, gold. You name it, and it lost money last week. There are times when diversification just doesn’t work as expected. As a long-term investor it is important we handle this appropriately:
- Get some perspective- there are periods where nothing seems to work. It doesn’t mean you should change your strategy, just realize going in, this will happen time-to-time.
- Check your emotions- losing money is emotional. If you are wanting to make changes to your portfolio, ask yourself honestly, “Do I want to make this change because I am afraid of losing more money or do I really believe my strategy is not effective anymore?”
- Realize you will look stupid- most good investment strategies require you to look and feel stupid in many instances. In times like these doing nothing while the market goes down is agonizing. Even still, adding money to an asset class that has lost value, only to see it continue to drop takes tremendous courage. A good investment strategy will have you making incorrect short-term investment decisions since no one knows how the market will react day-to-day.
- Stick to your guns- if your strategy calls for buying when assets drop below a certain target weighting, make sure you do this. Rebalancing portfolios (especially in times of market turmoil), is one of the best ways to react. Don’t be afraid to stick to your guns, as this is one of the hardest things to do during these periods.
- Focus on long-term results- in the fall of 2011, the market had taken quite a beating. Europe was a complete mess and the perception was the US government was completely inept. Global markets had lost more than 20% of their value in just a couple months. At that time, we wrote this to clients:
Greenspring continues to manage client portfolios using a disciplined process. Because of that strategy, we are close to repositioning some of our bond positions into stocks. If the stock market were to fall another 5 percent, our strategic allocation to equities for most clients would drop below our acceptable threshold and prompt a buy. While we don’t know if this would mark the ultimate bottom, we have found that this strategy tends to work well during market declines, as we are able to pick up quality holdings at cheaper prices. While it may seem counterintuitive to buy when everyone else is selling, we have found that following the herd tends to lead to herd-like returns, which unfortunately have been dismal.
When you focus on long-term results and try to block out the short-term noise, things seem to be a little more clear. Those of us who believe in markets, know that 10, 20 and 30 years from now, there is a very good chance of higher stock prices. When we view the market in this type of context, these times of trouble, actually end up as times of opportunity.
For the first time in 2 years, the 10 year treasury bond yield hit 2.5%. Treasury bonds tend to be the risk free rate that most other bond yields are based off of. With rates rising we are now seeing positive real interest rates, meaning that we are getting some return over the rate of inflation. Here is the chart:
For those of you who are saving, this is welcomed news. You now can generate positive real returns in safe investments, which has not been the case for quite a long time. Much attention has been given to the fact that bonds and stocks are falling at the same time. The question is, can this continue? We believe that it is highly unlikely this persists when you think about what is going on. First, bonds are selling off because there is finally some recognition of economic growth and there is some concern that the Fed will be slowing their bond purchases in the near future. As bond prices fall, yields rise, so if this were to continue for any extended period, bonds will become very attractive given that inflation remains at very low levels. From a historical perspective, stocks are fairly valued. Any further sell-off will generate some attractive valuations for investors.
While we don’t know what will happen in the future, you would expect economic weakness to be positive for bonds. If we were to have continued economic expansion, we would expect stocks to react favorably. So, one way or the other we would not expect stocks and bonds to continue falling in tandem for a very long extended period. Therefore, maintaining an appropriate mix of stocks and bonds is essential right now.
Information contained herein has been obtained from sources considered reliable, but its accuracy and completeness are not guaranteed. It is not intended as the primary basis for financial planning or investment decisions and should not be construed as advice meeting the particular investment needs of any investor. This material has been prepared for information purposes only and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. Past performance is no guarantee of future results.