Market Responses to Headlines
Enclosed is your year-end portfolio report. It includes a gain and loss report and an income and expense report for 2011. Please be aware that many mutual fund firms continue to issue capital gains/loss revisions through January and into February.
What the experts said
Last year the sixth paragraph of our January report had this content: “This year the “experts” are predicting about a 10% advance in the S&P Index, that interest rates will have a meaningful rise, and that gold will continue to spike higher. ….Unemployment is forecast to move to 9%. Your guesstimate may be better than the experts!”
Here is what happened. The S& P Index was down fractionally while the New York Stock Exchange index fell 6%, interest rates moved to historically low levels (the short term bond index declined from 1.15% to 0.15%), the gold index fell 20.3% (while gold itself was up about 10%) and unemployment declined to 8.5%. Congratulations “experts” for being 100% off the mark.
We suggest that when you hear or read expert advice to buy this or sell that, you take it with a grain of salt. We can all be experts once, but in over four decades in this business I don’t recall any pundit being correct in their forecasts twice in a row.
A Lost Decade
Last quarter several of us here attended conferences at Fidelity, Dimensional, the National Association of Personal Financial Advisors (NAPFA) and local peer study groups. I found contemporaries who had been in business for decades stating that 2001 through 2011 had the worst market conditions and period of economic and political uncertainty they had ever been through.
Will it continue? No one knows, of course, but pessimistic forecasts get wider press coverage than optimistic ones. Will the world implode or will recovery, however small, begin to surface? Please spend a few minutes and examine the following two graphs, the US Stock Market and the World Stock Market Performance. There are thirty events highlighted. Not all of them were negative and, during 2012, there will again be both negative and positive market influences.
2011 Review: Market Response to Headlines
The past year reminded investors that they should hope for the best, prepare for the worst, and be thankful when reality does not match their fears. Investors entered 2011 with hopes that the world economy would continue recovering from a long and painful deleveraging process. Equity markets had posted two straight years of positive performance, central banks remained committed to pro-growth monetary policy, and major developed nations were focused on reducing debt.
By mid-year, however, optimism faded as troubling events around the world dominated headlines. The devastating earthquake and tsunami in Japan, political unrest in the Middle East, rising oil prices, a US credit downgrade, the threat of another global recession, and an escalating debt crisis in Europe weighed heavily on markets. As stock market volatility returned to global financial crisis levels, investors faced a major test to their discipline and staying power.
Although US stocks experienced some of the highest volatility in years, the broad US market delivered flat performance in 2011. Developed markets logged negative returns, and emerging markets had mixed performance, with most countries also underperforming the US. The bright spots were in the fixed income arena, where a flight to quality triggered by the euro debt crisis and US credit downgrade boosted returns on US government securities, inflation-protected securities, and municipal bonds.
The above headliner graph features some of the year’s most highly publicized events in the context of the Russell 3000 Index, a broad indicator of US stock market performance. These events are not offered as an explanation of market performance, but as an illustration that a volatile news environment can challenge even the most disciplined long-term investors.
The World Stock Market Performance chart below offers a snapshot of global stock market performance, as measured by the MSCI All Country World Index. Actual headlines from publications around the world are featured. Again, these headlines are just a sample of events during the year.
Throughout the year, investors could find a host of reasons to avoid stocks and wait for more positive news before returning to the market. As these select headlines suggest, determining the right time to invest is a difficult task since the market anticipates news and quickly factors in new information.
2011 Review: Economy and Markets
In 2011, global diversification proved as important as ever. Although diversification may not have prevented losses, investors with broadly diversified portfolios were better equipped to endure the uncertainty. Major themes during the year included:
European Debt Problems
The sovereign debt crisis intensified as European authorities struggled to avert a Greek debt default and alleviate fiscal pressures in Italy and France. But these restructuring attempts fell short of market expectations, which spooked investors and raised concerns of additional sovereign debt downgrades and a possible breakup of the Eurozone. The crisis also hurt European banks holding large positions in sovereign debt. To avoid losses, leading institutions reduced lending and dumped assets, which depressed asset values. Higher borrowing costs in the most indebted countries, combined with reduced government spending and revenues, raised more concerns that the Eurozone was entering a recession in late 2011.
Since the global financial crisis in 2008, central banks and governments have taken bold measures to fuel business activity and stabilize financial markets—and investors have eagerly awaited signs that economic recovery has taken hold. The economic signals continued to be mixed in 2011. Favorable US news included strong corporate profits and dividends, substantial levels of cash on corporate balance sheets, low interest rates and inflation, a booming domestic energy sector, continuing strength in auto sales, record-high share prices for some multinationals, and improved fourth-quarter numbers in manufacturing, exports, consumer confidence, and employment. Pessimists could point to the longstanding jobless trend, slumping home prices, tepid growth in retail sales, worrisome levels of government debt, and political gridlock at both the national and state levels.
Although emerging economies showed resilience, investors were concerned that another recession in Europe would impact its trading partners in emerging economies—and particularly in China, where high inflation and a manufacturing slowdown threatened to send its previously fast-growing economy into recession.
Investors in US equities had to endure a heavy dose of uncertainty for their moderate gains. The S&P 500 Index reflected this volatility by closing up or down over 2% on thirty-five days in 2011, compared to twenty-two days in 2010. By contrast, before the global financial crisis, the index did not have a single day with a 2% or more movement in 2005, and only two days in 2006.
Market observers also documented higher correlations among individual stocks and between asset classes. In 2011, there were sixty-nine days in which 90% of the S&P 500 stocks moved in the same direction, which is more than the combined total for 2008 and 2009. Higher correlations are common during periods of uncertainty, as macroeconomic forces overshadow the impact of a company’s business fundamentals on its stock price.
Falling Commodity Prices
In early 2011, commodities soared with expectations of improving economic growth around the world. Copper, cotton, and corn hit all-time highs in the first half of the year. Crude oil experienced double-digit returns in response to anticipated higher demand and threats of supply disruptions tied to political unrest in the Middle East. The Dow Jones-UBS Commodity Index peaked in April, then fell 20% as the global economic outlook faded. The index returned -13% for the year—its first negative return since 2008. The most notable exception was gold, which set more records in 2011 and peaked at $1,888.70 per ounce in August before declining in the fourth quarter to return about 10% for the year.
Investor Risk Aversion
The fragile world economy made markets particularly vulnerable to shifting investor sentiment. During the year, investors reacted to uncertainty by moving to asset classes they deemed more stable, including large cap stocks and government bonds. Despite the Standard & Poor’s downgrade of the US credit rating in early August, investors fled to US government securities as concerns mounted over the sovereign debt crisis in Europe and political stalemate over the US debt ceiling.
We believe that maintaining your asset allocation within the scope of our mutually agreed upon Investment Policy Statement is the proper course. If we (and investors in general) succumb to the day to day fears or jubilations we have failed to learn from over 200 years of the long-term market uptrend. Patience is a virtue.
Wishing you all a healthy, pleasant and prosperous year.
John, Derek, Dawn and Sue
Dawn Doebler, MBA, CPA, CFP®
Most of you have spoken with or met Dawn Doebler. She is an integral part of our “team” approach to wealth management, and it dawned on me (pun intended) that many of you really don’t know much about her. In today’s world of folks with questionable business ethics, molesters, scam artists, and troubled souls I’m proud to report that Dawn Doebler is none of these.
Dawn has an interest in a variety of women’s issues and her passion has recently led to a role as pro bono Executive Producer for an independent documentary film entitled “Lipstick and Liquor: A documentary to inspire a new dialogue” on alcoholism. With John’s help, Dawn manages the business aspects of the film, and is coordinating the film’s premier events nationwide. Expect a link to the film’s trailer coming soon.
Dawn also advises the Board of We Refuse Abuse, a non-profit magazine that promotes awareness of and services for victims of domestic violence. Dawn served as emcee of the organization’s launch, and also writes a quarterly column addressing the financial impacts of domestic violence on families. She works alongside other board members to promote the organization’s commitment to “Inspire, Empower, Educate, and Save a Life! Be A Neighbor’s Keeper”. Her role in this organization led to work promoting projects benefiting women in under-developed areas in Africa. Dawn also works with non-profit organizations and charitable giving on behalf of our clients.
Dawn has a long list of academic credentials. She attended Grove City College where she majored in Financial Planning and Economics. She received a full tuition scholarship to obtain an M.B.A. in Finance and Accounting from the University of Maryland. Dawn holds the Certified Financial Planner designation, and is also a Certified Public Accountant in the State of Maryland. While she does not do taxes, she does converse with our client’s accountants on a professional level that may well enhance the client’s financial situation.
In addition to these academic credentials, Dawn’s portfolio of professional experience equips her to work with our diverse group of clients. She has held positions as Consultant, Investment Manager, and Senior Wealth Manager. Prior to her work in the investment management industry, Dawn held various managerial roles providing financial analysis for senior executive management at Ford Motor Corporation and Nissan Motors. She also consulted with multinational corporations, including Toyota and Honda, on large-scale financial systems implementation projects. Dawn continued her career at Southern California Edison where she advised senior management on Corporate Treasury issues, including determination of the annual dividend payout to investors.
Dawn has been invited for TV appearances and is a frequent speaker at industry events and investor meetings on topics including management of investment advisory firms, retirement planning, behavioral finance, and women and their money. She is a member of the National Association of Personal Financial Advisors and is a national board member of their School of Practice Management.
Dawn has a daughter in middle school and son in high school. She actively pursues yoga and swimming.
We hope you will have an opportunity to meet Dawn and to benefit from her unique combination of professional credentials and personal attributes. On top of all this, she is just plain nice.