As we write this letter in the first days of the new fiscal year, much of the federal government has shut down for the first time in 17 years. This situation resulted from Congress failing to pass a continuing resolution (CR) to fund the government for the next several months. House Republicans have adopted a hard line, insisting that any CR be accompanied by significant cutbacks and/or delays in the implementation of the Patient Protection and Affordable Care Act, conditions that President Obama and Democrats find unacceptable. To make matters worse, within the next couple of weeks, we will likely have to endure another showdown over increasing the federal debt ceiling. In our view, Congress’ newfound tendency to engage in brinksmanship is scarier in the context of the debt ceiling debate, since failing to raise the debt ceiling in fairly short order could result in the U.S. government defaulting on debt payments. Because U.S. Treasury debt is still regarded as the de facto risk-free asset around the world, any failure to make payments on time and in full could send shockwaves throughout the global financial system. In spite of these worrisome political developments, it was a terrific third-quarter for stocks around the world. U.S. stocks in particular have enjoyed very strong returns year-to-date. Stocks and bonds received a surprise boost on September 18th when the Federal Reserve announced that it was holding off on initiating its “tapering” of government bond purchases, and would continue its extremely accommodative policy until it observed stronger vital signs from the economy. While we would prefer to see stronger economic and job growth, prompting the Fed to extract itself from the bond market, the old stock market adage “Don’t fight the Fed” prevails for now.
For anyone with a sizeable allocation to equities, it has been a very good year so far. The following are quarterly and year-to-date returns for the major asset class indices:
Index | Asset Class | Third Quarter 2013 | Year-to-Date 2013 |
Barclays Capital U.S. Int. Government / Credit Index | Fixed Income | 0.60% | -0.80% |
S&P 500 | Large U.S. Stock | 5.20% | 19.80% |
Russell 2000 | Small U.S. Stock | 10.20% | 27.70% |
MSCI ACWI ex-USA* | Foreign Stock | 10.10% | 10.00% |
S&P Global REIT* | Real Estate Securities | -0.20% | 2.80% |
In our opens in a new windowOctober 2011 newsletter opens PDF file we wrote:
“However, let us not forget that we have weathered more challenging environments in the recent past. Two years ago in early October 2011, the economic and political landscape looked bleaker than today.”
While the stock market has been incredibly volatile, at today’s levels stock valuations appear attractive…We will not pretend that everything is sunshine and roses, but when people say to us, “I just don’t see anything good out there,” we tend to disagree. We do not believe this is 2008 all over again. Nor is it likely the end of stock market volatility as we have come to know it. But if you look beyond what the markets are doing today to the long-term expectations for a well-diversified portfolio, we think stocks will provide growth and protection from inflation. We also think that bonds continue to play an important role in mitigating the volatility of the stock portion of a portfolio.
The following table lists cumulative asset class index returns since we wrote that letter two years ago:
Cumulative Returns | October 2011-September 2013 |
Fixed Income (Bonds) | 3.90% |
U.S. Large Cap Stocks | 55.40% |
U.S. Small Cap Stocks | 71.60% |
Foreign Stocks | 33.30% |
Real Estate Securities | 37.40% |
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