“I became a disciplined investor over 40 years ago. The virus broke me in 40 days. I’ve survived — and even prospered through — four stock market crashes. But nothing prepared me for this.” So went the title and opening lines of The New York Times writer James Stewart’s March 27th article, in which he describes his personal struggles with sticking to a disciplined investment plan and dealing with unprecedented stock market volatility. As Mr. Stewart states, the first quarter of 2020 shook even the most seasoned investors’ willpower and tested America’s resilience in the face of adversity. In the last six weeks of the quarter, a tidal wave of bad news sowed fear among investors far and wide:
First quarter returns for equity asset classes were not pretty. Intermediate-term government bonds, which serve as the ballast for many clients’ portfolios, were the sole bright spot.
|Barclays U.S. Govt./Credit—Int.||Fixed Income|| |
|S&P 500||Large U.S. Stock|| |
|Russell 2000||Small U.S. Stock|| |
|MSCI ACWI ex-USA||Foreign Stock|| |
|S&P Global REIT||Real Estate Securities|| |
The last couple of months have been frightening and surreal as we have watched an epidemic unfold rapidly across the country. Our lives have been changed in ways words cannot describe as we adjust to new challenges in our personal and professional lives. While some people are able to work from home, many businesses have had no choice but to suspend operations. As a result, the global economy and financial markets have been shaken.
A natural investor temptation during tough economic times is to get out of the stock market — or at least reduce stock exposure — until “the dust settles” or “the outlook improves.” Unfortunately, there is no historical or academic evidence that investors can reliably and consistently time markets in this manner. Often, the fear of being in the market is quickly replaced with the fear of being out of the market. One of the big problems with market timing is that it requires several correctly timed decisions. Getting one market call right — exiting the market prior to a downdraft or entering the market in anticipation of a sizeable move upward — is unlikely to provide enough incremental return over an investor’s time horizon. The last two weeks of March serve as a prime example of the difficulty involved in accurately timing the stock market. The week of March 16th through March 20th was one of the worst weeks ever for U.S. stocks. The week of March 23rd through March 27th, however, saw the Dow Jones Industrial Average up 12.8%, notching its best weekly gain since 1938. Missing the best days in the market can detrimentally, and permanently, affect long-term returns.
Many investors have encountered people who were “smart” enough to exit the stock market in the late 1990s, thereby missing the sharp decline of the tech crash of 2000 through 2002. It is unlikely, however, that any of these investors were later smart enough to get back into the market for the entire 2003 through 2006 period, during which the S&P 500 Index returned an average of 15% per year, pull out prior to the 2007-2009 financial crisis, and jump back in on March 9, 2009, to enjoy the subsequent 11-year bull market. Being out of the market during the “good” periods of time that followed these two bear markets negated much, if not all, of their prior market timing gains. Rather than attempting to figure out the short-term direction of the market, we strongly believe investors are better off accepting the long-term returns of equity investing and doing their best to ignore the dramatic moves that occur in shorter time frames. We fully acknowledge from an emotional and behavioral standpoint this is easier said than done.
Since we disavow market timing strategies, we are often asked what we are doing in reaction to extreme stock market volatility like we have experienced over the last several weeks. The simple answer is that we are continuing to implement our time-tested, disciplined investment and financial planning process. In today’s environment, this approach has three primary components. First, we are rebalancing client portfolios to their target asset allocations, which generally means reducing fixed income (bond) exposure and adding to equity (stock) holdings at lower prices. This is a way of executing Warren Buffett’s advice to “Be fearful when others are greedy and greedy when others are fearful.”
Second, we are taking advantage of the opportunity, sometimes on a daily or weekly basis, to harvest tax losses for our clients in their taxable accounts (revocable trusts, individual accounts, etc.). Up to $3,000 of these losses can be applied against ordinary income on your tax return. More importantly, these tax losses can be used to offset realized capital gains on other assets, and any unused losses can be carried forward indefinitely to be used in future years. Tax-loss harvesting can have a meaningful impact on long-term after-tax returns. If missed, the opportunity goes away. It is worth noting that rebalancing and tax-loss harvesting efforts may lead to more trading than you may have become accustomed during the relatively calm market of the previous decade.
Lastly, our team is updating many clients’ financial plans. As the current economic circumstances have impacted income sources, retirement timing, and overall spending needs, we are helping clients adapt their retirement planning scenarios. Financial planning is a fluid process and many of our financial plans include “stress tests” of bear market scenarios similar to the one we are currently experiencing.
As we enter the second quarter, numerous economic issues remain unresolved and the long-term implications of the COVID-19 pandemic are unclear. It is helpful to remember that the stock market historically recovers before the economy rebounds. It is precisely when fear and pessimism are at elevated levels that equity investors are presented with their greatest long-term opportunities. The stock market and the economy may not turn around this month, this quarter, or even this year; but, for investors with appropriately long time horizons and the emotional ability to tolerate the unavoidable ups and downs, we believe diversified investment portfolios will continue to generate attractive long-term returns.
The Coronavirus Aid, Relief, and Economic Security Act, or “CARES Act,” signed into law on March 26th, is far-reaching in its attempt to provide much-needed financial relief to individuals, families, small businesses, borrowers, certain industry sectors, and state/local governments. Below is a brief summary of some of the provisions included in the $2.2 trillion stimulus package:
Benefits for Individuals:
Benefits for Small Businesses and Nonprofits:
Benefits for Taxes and Retirement Planning:
The above list is not exhaustive. We encourage you to reach out to your financial advisor or tax professional to discuss any potential planning opportunities for your specific situation.
Finally, the Securities and Exchange Commission (SEC) requires all registered investmentadvisers under its supervision, including Dowling & Yahnke, to provide clients with an annual summary of specific and significant changes that have occurred within the past year. We have no material changes to report, aside from an update to our Regulatory Assets Under Management. A complete copy of our most recent Disclosure Brochure is available upon request or may be obtained hereopens PDF file .
We remain humbled by the trust our clients have placed in us to guide them through good times as well as periods of stress and discomfort. Please call or e-mail anytime you would like to discuss your portfolio, your financial plan, or just to say hello in these times of isolation.
Dowling & Yahnke Wealth Advisors