Nervous Investors Wonder What’s Happy about the New Year

By Aradhana Kejriwal, David Geller   |   January 26, 2016

Last year was one of the worst years for finding returns. CNBC reported that 2015 was the hardest year for investors to make money in 78 years. The S&P 500 remained one of the top asset classes in 2015, but eked out a meager 1.38%. (Unless otherwise noted, all performance data cited herein from Yahoo Finance.) Even Warren Buffett, one of the most successful investors of our times, lost ground. Berkshire Hathaway (BRK.A) stock lost more than 12% in 2015. By comparison, Morningstar’s Aggressive Target Risk Portfolio, a diversified portfolio comprised of global stocks and commodities (see disclosures) fared almost 9% better, losing 2.67%, but still down for the year.

Then, as investors were still reeling from their dismal 2015 returns, the S&P 500 posted its worst start since 2001, plunging a jaw-dropping 6.83% in the first three weeks of 2016, leaving some to wonder if these first down days are a harbinger of things to come. Investors are understandably disappointed and nervous. Happy New Year indeed.

Yes, the markets do seem to be falling like dominos in 2016. Those predicting doom and gloom, like economist Nouriel Roubini (in December 2014, Roubini predicted “the mother of all asset bubbles” would burst in 2016) and investor Jim Rogers (in November 2015, Rogers said he was curtailing his investing “due to his concern that mounting worldwide debt and too much easy money will lead to a global bear market”) must be getting over-booked for TV interviews to explain why they believe the global economy is about to collapse.

Investors have been bombarded with bad news: the terrorist attacks in Paris; decades-low oil prices; China’s slowdown in manufacturing and disastrous market experiments; claims of hydrogen bomb testing by North Korea; the Syrian refugee crisis; and ongoing tensions between Saudi Arabia and Iran, just to name a few. When it seems like each news cycle brings more bad news, being nervous and having market jitters is not only a plausible emotional response, it’s the expected one.

It comes as no surprise that nervous investors might feel compelled to act, or desire even to change their portfolio strategy. Trying to “white knuckle” your way through your anxiety isn’t a strategy, it’s a contest of will, and one that could cost you. Generally speaking, investors that succeed over the long term are the ones who don’t react or overreact to short-term market movements. To succeed for the long haul, savvy investors employ techniques that help them rein in their emotions and avoid capitulating during market downturns. A good financial advisor should be able to help you identify your emotional triggers and blind spots, and provide strategies to help you avoid making a Big Mistake. So if you’re feeling nervous, please call your GV advisor.

Optimism: What do the numbers show?

Especially in times of market turmoil, clients can find GV’s enduring investment confidence infuriating. But what’s behind our long-term confidence?

Let’s review the data behind GV’s positive long-term outlook. If we were to start with today’s market and assume the S&P 500 were to repeat its worst performance over a 20-year period and analyze the implications, what would we find? For disclosure purposes, because GVFA uses a diversified asset allocation approach, and there is no index that is an exact representation and has a long track record of 89 years, we chose to use S&P 500 index to depict the concept. Indexes are provided for informational purposes only and you cannot invest directly in an index. We looked back at market history from 1927-2015 (89 years) and analyzed the two worst 20-year scenarios:

S&P 500 20 Year Rolling Worst Returns (1927-2015)
Scenario 1: Since Great Depression 1.6%
Scenario 2: Since 1931 6.3%
SCENARIO 1: Assume worst 20 year returns of 1.6% since the Great Depression repeats today

2016 Client Letter - IMAGE 1

 

Looking at the timeline above, assume one invested in October 2007 when the S&P 500 was at 1548.71.  If from this point in time one earned 1.6% annually (matching the worst 20-year rolling return since the Great Depression) then the S&P level would projected to be at 2127.38 in October 2027.

  • If the S&P 500 was at 1943.09 (January 7, 2016) it would require an average annualized return of almost less than 1% for it to close at the 2127.38 level in October 2027.

Even if that were the case, we would still be looking at positive returns – and no one is predicting an economic environment anywhere as negative as the Great Depression. However, since prospect of another Great Depression occurring today is slim, let’s take a look the same analysis assuming worst 20 year returns since 1931, which would eliminate some of the extreme down years from the Great Depression.

SCENARIO 2: Assume worst 20 year returns of 6.3% since 1931, repeats today

2016 Client Letter - IMAGE 2

Looking at the timeline above, assume one invested in October 2007 when the S&P 500 was at 1548.71.  If from this point in time one earned 6.3% annually (matching the worst 20-year rolling return since 1931) then the S&P level would projected to be at 5255.76 in October 2027.

  • If the S&P 500 were at present levels of 1943.09, it would have to return almost 8.65% annualized for the next 12 years to reach those returns.

In summary, markets can be volatile over the short term for any number of reasons (fundamentals, speculation or no reason whatsoever), but over the long term, returns historically revert to the mean as economies and countries grow over time.

PREDICTIONS GALORE – Do the Experts Know?

Even though we know that markets are hard to predict and unknowable over the short term, the start of the New Year always brings with it diet resolutions and countless predictions about how the markets will perform over the next month, 6 months, 12 months, and so on. Unfortunately, many people make investment decisions about their portfolio based on these “expert” predictions. So, before your desire to do something takes over, let’s review some predictions made by the experts just since the last financial crisis and see if they were right or wrong.

Year Prediction(s) Right? What happened?
2009 Investors believed the stock markets was ending, CNBC’s Jim Cramer advised investors to abandon stocks and many threw in the towel. WRONG The market hit bottom in March 2009, and a robust recovery began in earnest. At year’s end, the S&P 500 had gained 26.46%.
2010 Due to the worsening Greek debt crisis, investors believed all of Europe would default on its debt and the Euro would cease to exist. WRONG The European Central Bank (ECB) introduced financial stability funds and bailed out Greece & Ireland. Spain & Portugal did not default. The Euro still exists
Peter Schiff, CEO of Euro Pacific Capital, predicted gold would hit $5,000 an ounce in late 2009 WRONG Gold topped $1900/ounce in September 2011 but has been moving downhill ever since
2011 In December 2010, Meredith Whitney forecast the “day of reckoning,” saying states would experience “significant” municipal bond defaults within the next 12 months and losses would exceed “hundreds of billions of dollars.” WRONG In 2011, Municipal Bonds returned 11% and defaults were minimal.
2012 Bond Market Crash! Fears of rising interest rates and the bond market crashing began in 2012. WRONG Barclays U.S. Aggregate Bond Index returns since then: 2012: 4.22%; 2013: -2.02%; 2014: 5.97%; 2015: 0.55%
2013 “Fiscal Cliff” fears: In late 2012 and early 2013, pundits predicted the U.S. government would shut down WRONG The crisis was averted; the U.S. government did not shut down
“Fiscal Cliff” fears part 2: The economy would collapse and the S&P 500 would crash. WRONG Wrong in a big way: the markets didn’t collapse; the S&P 500 returned 32.39%.
2014 Oil will hit $100. A Dec. 2013 Reuters’ survey of 27 oil analysts showed they expected an average price of just over $100 for the Brent benchmark in 2014. WRONG Oil began the year at $95.14 and ended at $53.45. In 2014, oil dropped 44%!
2015 S&P 500 would rally 10% in 2015 WRONG The S&P 500 returned just 1.38%.
2016 Fears of another Great Depression TBD

Michael Johnston has compiled a list of spectacularly inaccurate market doomsday predictions made in the last few years – including predictions of a “major war in 2012” by a former Goldman Sachs analyst, Harry Dent’s prediction that the Dow would reach 3000 in 2013, and Paul Farrell’s predictions (made with a galling 98% confidence) that markets would crash in 2014. Clearly none of those predictions panned out.

When it comes to making predictions, biology doesn’t always work in our favor. “Our brains are great at what they do because they make educated guesses – but that also makes us vulnerable to errors in judgment. Nowhere is this more pronounced than when we try to forecast the future.” As the noted bear Nassim Taleb argues in his book, The Black Swan, we ascribe far too much predictability to the truly unpredictable.

So how do we accurately predict where the markets are headed? The truth is, we can’t. Markets are irrational and unpredictable in the short run.

So the next time you’re tempted to change your portfolio’s allocation based on a forecast you’ve read or heard somewhere or even came up with yourself, you might be wise to think again. As the Wall Street Journal recently quipped, “One market prediction is sure, Wall Street will be wrong.” Fear and greed may be the twin evils of investing – but when experts add ego to the mix and offer their predictions about an always unknowable future, it can be a surefire recipe for disaster. Do you really want to bet your hard-earned life savings on someone’s guesses? Perhaps your time would be better spent focusing on your goals.

GV’s Investment Strategy: We strive to think and act as long‐term investors, not to speculate about an unknowable future. We pay heed to current market messages and economic signs, but we strive never to even attempt to predict the markets’ short-term performance. We continue to have faith that our investment philosophy and processes applied consistently and without the damage often caused by our emotional impulses of fear and greed, provide the best opportunity to generate long-term investment success for our clients. That being said, we have not remained idle in the face of these challenging economic and market conditions.

In addition to rebalancing portfolios to take advantage of wide market swings, we’re researching which asset classes might provide negative correlation and thus help reduce your risk. This is especially important in the increasingly global world where an event in any part of the world can have a profound impact on other parts of the world. As the saying goes, “If the U.S. sneezes, the world markets catch a cold.” Having assets whose market prices are less influenced by other assets classes is a critical step in reducing risk in a diversified portfolio. Our addition of both the International Small Cap and Emerging Market Small Cap asset classes are two examples. We are also researching money managers that have strategies that are not correlated to the markets. If you would like a detailed analysis on our views on specific asset classes, please contact a GV advisor.

What GV’s Doing to Boost Performance in 2016

Sticking with a diversified portfolio in a market environment dominated by a single asset class can be frustrating and challenging, testing the patience of even the most committed investor. But like the proverbial duck on the water, GV is not simply drifting wherever market currents take us; we’re paddling relentlessly below the water line to keep your portfolio moving forward.

Based on our analysis of economic and market conditions, we elected not to make any changes to our model portfolios as we head into 2016, though that might change based on evolving data. As we see it, the current data suggest we may be in an environment where stocks and bonds are rationally offering lower long-term returns than they have in years past; however, we believe that other possible strategies would produce far worse outcomes: moving to (or staying in) cash would ensure investors receive low or even negative returns (once inflation is factored in) and perhaps incur substantial tax liabilities, and switching to single asset class investment strategy would present unacceptably high risks, and threaten your long-term investment goals.

To paraphrase Winston Churchill, diversification is the worst investment strategy except for all the other strategies that have been tried. No one can predict the future, but you can prepare for whatever the future may hold by setting aside what you need to meet your short-term needs and investing in a properly diversified portfolio designed to help meet your long-term needs.

On behalf of everyone at GV Financial Advisors, we wish you and your family a happy and healthy 2016!

David Geller, CEO
Aradhana Kejriwal, CFA® & Director, Investments


Disclosures

GV Financial Advisors (GVFA) is an SEC-registered investment adviser. Registration of an investment adviser does not imply any level of skill or training. The firm is an independent investment management firm. The information presented herein is current as of the date of publication, but is subject to change without notice. All information was compiled from sources believed to be reliable, but we cannot guarantee its accuracy or completeness.

This information is distributed for educational purposes only and should not be considered an offer to provide investment advisory services. Such an offer may only be made if accompanied by GVFA’s SEC Form ADV Part 2 Disclosure Brochure.

Past performance is not indicative of future results. Accounts can lose value. It should not be assumed that recommendations made in the future would be profitable.

Morningstar Diversified Aggressive Target Risk Index Portfolio Performance (Model Portfolio) is hypothetical and is derived from the retroactive application of an investment model with the benefit of hindsight. The Morningstar Target Risk Index series consists of five asset allocation indexes that span the risk spectrum from conservative to aggressive. The family of asset allocation indexes can serve as benchmarks to help with target-risk mutual fund selection and evaluation by offering an objective yardstick for performance comparison. All of the indexes are based on a well-established asset allocation methodology from Ibbotson Associates, a Morningstar company and a leader in the field of asset allocation theory. The series consists of five indexes covering the following equity risk preferences: Aggressive Target Risk, Moderately Aggressive Target Risk Moderate Target Risk, Moderately Conservative Target Risk, and Conservative Target Risk. The securities selected for the asset allocation indexes are driven by the rules-based indexing methodologies that power Morningstar’s comprehensive index family. Morningstar indexes are specifically designed to be seamless, investable building blocks that deliver pure asset-class exposure. Morningstar indexes cover a global set of stocks, bonds, and commodities. The indexes utilize asset allocation methodologies developed and maintained by Ibbotson Associates, a leader in asset allocation research for over 30 years and a Morningstar company since 2006. Past performance does not guarantee future returns. We are only showing the Morningstar Aggressive Risk portfolio in this chart. Source: Morningstar Direct. Past performance does not guarantee future returns. One cannot invest in the index directly. This is not an investment recommendation. This is a hypothetical portfolio using world market capitalizations. GV Financial shall not be held responsible for any trading decisions, damages, or other losses resulting from, or related, to this information, data analyses, or opinions or their use. Model Portfolio Performance does not reflect the performance of any actual client accounts, nor does it reflect the impact that a material market condition would have on GVFA’s decision-making process. Returns for actual client accounts may vary significantly from the performance of the models and there can be no assurance that a client would have achieved the results that in any way resemble that of the Model Portfolio Performance.

Returns are Gross of Fees for indexes and Model. Returns do not reflect the impact of taxes.

Indexes are provided for informational purposes only. An index is unmanaged and does not reflect the impact of transaction costs, advisory fees or other expenses related to an actual investment. You cannot invest directly in an index. Because GVFA uses a diversified asset allocation approach, there is no index that is an exact representation of GVFA’s model portfolios. Therefore, the Model Performance may differ substantially from the index.

Aradhana Kejriwal

About the Author

Aradhana Kejriwal, CFA®, is JOYN's Chief Investment Officer and co-chairs the Investment Committee, which formulates and implements the firm's investment philosophy, strategies, processes and procedures. With 19 years of investment experience, she's a popular industry writer and speaker.

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David Geller

About the Author

CEO David Geller co-founded the firm in 1991 and led the creation of Behavioral Wealth Management. Recognized on numerous prestigious "top financial advisor" lists, David is an in-demand speaker for professional groups and JOYN workshops. His writings have appeared in The New York Times, The Wall Street Journal and The Huffington Post.

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