Dear Clients and Friends:
On behalf of the entire team at DV Financial, we hope you and your loved ones enjoyed a wonderful holiday season, and we wish you a safe, happy, and prosperous New Year. You may have noticed our Facebook post about the newest member of the team, a beagle puppy named Paisley. Next time you are in the office, she is likely to stop by and say hello.
Each January we start a new year, have the opportunity to reflect on the past, and plan for the future. It is an important time of year for a Financial Planner. A year ago in this letter, I wrote:
The momentum generated by a growing U.S. and global economy is likely to carry over into the new year. While a 2018 recession can’t definitively be ruled out, leading indicators suggest the odds are low. However, unexpected events create short-term, emotional responses in the market that are best ignored by long-term investors.
Last year’s lack of volatility was simply remarkable. According to data from LPL Research and the St. Louis Federal Reserve, the biggest drop in the S&P 500 amounted to just 2.8%. It was the smallest decline since 1995. The average intra-year pullback for the S&P 500: 13.6%.
Looking back, in 2018 the U.S. economy exhibited strong growth in the second and third quarters, a recession did not ensue, and it turned out that 2017’s lack of volatility was remarkable. We knew volatility would return; we just couldn’t be certain when.
2018 began on firm footing building on highs in the wake of tax reform, low interest rates, low inflation, and strong corporate profit growth. Stocks generally rise and fall on their fundamentals and the outlook was quite favorable as the year began. However, when there’s too much good news priced into markets, even small disappointments can create volatility.
A spike in Treasury bond yields tripped up bullish sentiment early in 2018. President Trump’s decision to level the playing field of international trade created uncertainty in the first half. Then, investors decided trade wasn’t important—until they decided later in the year that it was. Another bout of selling began in October and the decline accelerated in December. Several factors contributed to the weakness, especially fears that continued rate hikes by the Fed might stifle economic activity in 2019 and quash profit growth.
As the year came to a close, the lowest point of the S&P 500 represented a decline of 19.8% from its highest point in the year which exceeded the long-term average annual peak-to-trough drawdown by six percentage points. Still, it was just shy of the 20% threshold, which is the commonly accepted definition of a bear market. Christmas Eve marked the bottom of the sell-off, but it is not the first time we’ve had a steep correction that side-stepped a bear market. We witnessed similar declines in 1998 and again in 2011. In both cases, a profit-crushing recession was avoided.
Overseas stocks fared worse as the global economy shifted into lower gear earlier in the year. Trade tensions, which are more likely to rattle foreign economies, added to woes.
But let me offer a little bit of perspective. Yes, the Q4 decline was unsettling. Nevertheless, if dividends were reinvested the total decline in the S&P 500 was just over 4% for calendar year 2018.
Younger investors, in their 20’s and 30’s, shouldn’t blink at stock market declines. Hopefully, these younger investors are continuously and systematically putting money into their accounts. When stock prices decline, dollar-cost averaging allows them to purchase a greater number of shares and it will be decades before they will need to draw on the funds for retirement. With a very long-term time horizon, even a vicious bear market is not an issue.
As we age, we can’t take such a sanguine view, and need to honestly assess our tolerance for risk and desire for gain. Perhaps a more conservative mix of investments is appropriate. We may make the decision to forego maximizing potential returns in order to minimize potential downturns. When proper asset allocation is achieved, investors should still anticipate longer-term appreciation, yet also be able to sleep at night when the unpredictable market sell-offs materialize. The same can be said of accounts that hold college savings, especially if the beneficiary is in college and doesn’t have the time to recover from a sharp dip in stocks. In the most conservative portfolios, any drop in the major market averages should have little impact on your overall net worth.
That said, it would not be advisable to make such decisions based on current market sentiment and momentum. We want to avoid panic selling, euphoria, or chasing the latest trends.
What’s in store for 2019
While 2018 began with unbridled optimism, caution quickly entered the picture and most major U.S. indexes had their first downturn since 2008. In 2019, we have the mirror image. There is no shortage of cautious sentiment. Some analysts hope to make predictions based on calendar trends. We’ve just entered a new year which creates discussion around the “January effect” which dictates that January performance sets the tone for the rest of the year. If stocks perform well in January, the bulls already have an advantage over the bears. Add reinvested dividends and stock’s natural upward bias into consideration, and it helps explain why a positive January usually results in a positive year. But the January effect is far from infallible and it did not prove correct in 2018. By the same token, 2016’s weak start didn’t carry over into the rest of the year either.
On October 4, 2018 the Wall Street Journal published an article “Midterms Are a Boon for Stocks—No Matter Who Wins” which points out the months of October, November and December have been the top-performing months during any year that included a midterm election, although that didn’t happen in this election cycle.
Another cyclical indicator looks at Dow Jones performance going back to 1896 and examines the 16-quarter cycle of the U.S. Presidency. This data suggests that the 4th quarter of the second year through the 2nd quarter of the third year of a President’s term is regularly the best three-quarter performance period of the 16-quarter cycle. Yet another midterm indicator suggests that the S&P 500 has finished in positive territory in every post 12-month midterm period since 1950.
While reviewing past election-year patterns might make for interesting conversation, it does not substitute for a well-thought-out plan that takes unexpected detours into account. As we’ve seen, markets can be unpredictable as investors try to anticipate events that may impact the economy and corporate profits.
Key Index Returns
|YTD %||3-year* %|
|Dow Jones Industrial Average||-5.6||10.2|
|S&P 500 Index||-6.2||7.0|
|Russell 2000 Index||-12.2||5.9|
|MSCI World ex-USA**||-16.4||0.4|
|MSCI Emerging Markets**||-16.6||6.7|
|Bloomberg Barclays US Aggregate Bond TR||0.0||2.1|
Source: Wall Street Journal, MSCI.com, Morningstar YTD returns: Dec. 29, 2017-Dec. 31, 2018 *Annualized **in US dollars
Stocks can be unpredictable over a shorter period. While sell-offs are unpleasant, they are also normal. Here are some facts which may give you peace of mind during these turbulent markets:
- The S&P 500 has lost an average of 31% every five years since WWII yet, the index has gained 75% of the time.
- The S%P 500 has averaged a nearly 10% annual gain since the late 1920’s.
During up markets and down markets, focus on your plan and the long-term progress you have made toward your financial goals. Stocks will hit small bumps in the road, and occasionally a major pothole, but the long-term data highlights that stocks have easily outperformed every other asset class including bonds, T-bills, CDs, and inflation. During the 2008 financial crisis, Warren Buffett famously opined “It’s been a terrible mistake to bet against America, and now is no time to start.”
As we prepare for whatever 2019 may bring, let us remind you that we are a resource for you. If you have questions or concerns, please feel free to reach out to me at email@example.com or call us at (515) 255-3354. We especially enjoy when you share our value with others and consider it the highest form of complement. If you know of others who seek answers to calm their financial nerves, we would appreciate the introduction.
Thank you for the opportunity to serve as your financial advisor.
Stop by sometime and meet Paisley!
Art Dinkin, CFP®
This newsletter contains general information that may not be suitable for everyone. The information contained herein should not be construed as personalized investment advice. Past performance is no guarantee of future results. There is no guarantee that the views and opinions expressed in this newsletter will come to pass. Investing in the stock market involves gains and losses and may not be suitable for all investors. Information presented herein is subject to change without notice and should not be considered as a solicitation to buy or sell any security. Indices are unmanaged and investors cannot invest directly in an index. Unless otherwise noted, performance of indices do not account for any fees, commissions or other expenses that would be incurred. Returns do not include reinvested dividends. The Dow Jones Industrial Average (DJIA) is a price-weighted average of 30 actively traded “blue chip” stocks, primarily industrials, but includes financials and other service-oriented companies. The components, which change from time to time, represent between 15% and 20% of the market value of NYSE stocks. The Nasdaq Composite Index is a market-capitalization weighted index of the more than 3,000 common equities listed on the Nasdaq stock exchange. The types of securities in the index include American depositary receipts, common stocks, real estate investment trusts (REITs) and tracking stocks. The index includes all Nasdaq listed stocks that are not derivatives, preferred shares, funds, exchange-traded funds (ETFs) or debentures. The Standard & Poor's 500 (S&P 500) is an unmanaged group of securities considered to be representative of the stock market in general. It is a market value weighted index with each stock's weight in the index proportionate to its market value. The Russell 2000 Index is an unmanaged index that measures the performance of the small-cap segment of the U.S. equity universe. The MSCI All Country World Index ex USA Investable Market Index (IMI) captures large, mid and small cap representation across 22 of 23 Developed Markets (DM) countries (excluding the United States) and 23 Emerging Markets (EM) countries*. With 6,062 constituents, the index covers approximately 99% of the global equity opportunity set outside the US. The MSCI Emerging Markets Index is a float-adjusted market capitalization index that consists of indices in 21 emerging economies: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Hungary, India, Indonesia, Korea, Malaysia, Mexico, Morocco, Peru, Philippines, Poland, Russia, South Africa, Taiwan, Thailand, and Turkey. Barclays Aggregate Bond Index includes U.S. government, corporate, and mortgage-backed securities with maturities of at least one year.  St. Louis Federal Reserve through 12/24/2018  S&P Indexes  1962 - 2014  LPL Research  Macrotrends  CNBC/Investopedia