Volatility Is Low and Anxiety Is High We are already through three quarters of the year, and once again, the overall feeling is that the markets are not doing as well as they actually are. In the investment community there is never a shortage of opinions as to why a certain feeling persists or what investors are thinking—there are a plethora of publications, newsletters, market pundits, financial channels, and even monkeys throwing darts to help us make sense of it all—but it is still hard to find a viable explanation as to why the markets continue to move higher, yet investors continue to be anxious and concerned. In this issue of Market View we will look at the various market returns for the quarter and year to date, and we will look at why we advised our clients to stay in the markets through the debt ceiling crisis. We will also examine why anxiety appears to be high, while volatility remains low. STATE OF THE INDEXES The third quarter of 2013 saw most of the major indexes continue to push higher despite concerns over the debt ceiling negotiations. Most major indexes were positive for the quarter except for the MSCI US REIT Index, which tracks Real Estate Investment Trusts, with a minus 3.00% return for the quarter but a positive 3.17% return year-to-date (YTD). The S&P 500, the Dow Jones Industrial Average, the MSCI EAFE and the NASDAQ continued their winning ways. The MSCI Emerging Markets, the U.S. Barclays Aggregate Bond and Gold indexes all reversed their course from the second quarter and posted positive third quarter returns. Gold led the reversal with an impressive 8.25% return for the quarter, followed by MSCI Emerging Markets with a 5.77% return and the U.S. Barclays Aggregate Bond index with a return of 0.57% for the quarter. The S&P 500 ended the quarter up 5.25% and up 19.79% YTD, the Dow was up 5.90% for the quarter and up 20.71% YTD, the MSCI EAFE was up 11.6% for the quarter and 16.6 YTD, and the NASDAQ soared with an 11.01% return for the quarter and a 22.22% return YTD.
With those types of returns, it’s hard to imagine that, just weeks ago, clients were calling their advisors, worried about the impact of the dysfunction surrounding the debt ceiling negotiations. REDW Stanley viewed this as a temporary, short term event. It has been and will continue to be our policy/philosophy not to make extreme portfolio adjustments under these circumstances. There are several reasons why we stick to our long term philosophy, the first being that we live in a world where there is always some type of short term event threatening the markets. If we were to react to each and every event, we would be advising changes to the portfolios on a weekly or maybe even a daily basis. And that brings us to the second and most compelling reason not to react: market timing, or moving in and out of the market, usually results in underperformance. The attached chart on page 3 illustrates this for us. As you can see, there are a number of big market movements which account for the majority of an investor’s returns, and if an investor misses just one of those key days, his/her returns are impacted. The chart tracks the S&P 500 returns from January 1, 1970 through December 31, 2012. The S&P 500 provided an annualized return for that period of 9.94% assuming an investor stayed invested in the index that whole time. If the investor pulled her/his money out for a brief period and happened to miss the one best day during that period, his/her annualized return would drop to 9.66%. If he/she missed the five best single days, the annualized return drops to 8.84%, and as the chart demonstrates, it continues to get worse as more days are missed. This chart highlights why we encourage our clients to stay with the long term plan even when there is reason to be concerned. There are always going to be reasons to be concerned, and our job as your financial advisor is to assess the situation, determine if it is a short term event or a long term, fundamentally corrosive event which requires action. We have said it many times before and we will say it many times going forward, emotions move the markets in the
short term and fundamentals move them in the long term. If we see an event as short term, we encourage our investors to ride it out because we believe the markets are reacting emotionally and the pullback or correction will be temporary. If the event appears to be a long term event that will cause the fundamentals to break down, then we take action to protect the portfolios from long term declines if warranted. We believe this keeps our clients in the markets and helps them to benefit from the major market moves whenever they occur, and we avoid the underperformance that usually accompanies market timing.
time when everything is open to scrutiny and the term “full disclosure” is a way of life, we have to accept that we will have every little issue analyzed, assessed and evaluated to the point where things that would have gone unnoticed in the past and accordingly been classified as a non-event are now not only brought to our attention, but magnified and somehow evolve into a major issue, or at least one that has a short term effect on the markets. It is increasingly difficult to distinguish between the events that will have a lasting effect on the markets and those that are temporary, or “noise” as some pundits call it.
BE CAREFUL WHAT YOU ASK FOR More now than ever before, investing has become an exercise in mental fortitude. Thinking back, there are many sayings from the past that continue to ring true, and one that seems fitting for the current times is, “be careful of what you ask for.” Twenty-five years ago news didn’t travel as fast and investors could not react immediately to some global events even if they wanted to; they usually had to wait a period of time to get the full story, and by then it was either too late to take immediate action or they had enough time to realize that it was a temporary blip on the radar and no action was necessary. Investors wanted breaking, up-to-the-minute news and we now get it. Another saying that comes to mind is, “patience is a virtue.” Investors seem to get information over the internet or television and make emotional decisions to sell or buy before the full impact of the event has been assessed or has even had time to play out. In the past investors would read The Wall Street Journal the morning after a major event, and if they felt something needed to be done, they then had to contact their broker who would then have to place a trade after having a discussion and assessing the situation. It would sometimes be hours or days before a trade was placed based on an unexpected event. The immediate dissemination of information has changed the way investors behave. Investment holding periods are shorter, and although volatility, when measured by the Volatility Index (VIX), is relatively tame, investors are still very wary and quick to sell at the first hint of danger.
There is no going back to the way it used to be, and no one really wants to return to the good ol’ days, but as the investing climate changes, investors have to change along with it. Investors have to adapt to a world where news is reported as it is happening and where situations seem to be magnified or blown out of proportion, forcing investors to make split second decisions or be patient and let the dust settle before making a move. This environment incubates anxiety, and so anxiety levels are high even though market volatility is low. The recent bear market of 2008 is still on investors’ minds and the number one goal is making sure that no one goes through that again. While we have to be vigilant not to let another 2008 happen again, we also have to be reasonable in our investment decisions. Still, sometimes when anxiety levels soar, investors’ ability to reason declines. So what is the answer? REDW Stanley, your advisor, is the answer. We, as a society, have advanced and improved our ability to disseminate information, and advisors’ roles have evolved along with this advancement to the point where our job is to manage expectations and fears and keep our clients invested in the market even when anxiety levels rise. We got what we asked for, like it or not. And patience is still a virtue; no one knows that better than your advisor.
As investment advisors we have always tried to help our clients through the volatile times because this is when clients seem the most vulnerable and afraid to stay in the markets. However, we have now moved into an environment where volatility is low and yet the fear level remains high. For lack of a better word to describe this state, I’ll call it “anxiety.” Investors and clients are anxious about the markets and every day it seems as though they have to come to terms with a situation that makes them uncomfortable. Living in a 2
WE ARE HERE FOR YOU The third quarter saw the markets survive the debt ceiling issue, and as the fourth quarter rolls along there is a good possibility that another event will dominate the front page and cause concern. In our opinion there will always be an event that threatens the markets, but we believe there is still an upside to these markets. The fear of declining bond values is still lingering and money market rates are low. REDW Stanley believes that equities, both domestic and foreign, will continue to move higher as the year comes to an end. If the market causes your anxiety level to increase, call your advisor so he/she can put things in perspective for you.
Performance of the S&P 500 Index and the Danger of Market Timing Daily: January 1, 1970-December 31, 2012
Growth of $1,000
$22,191 $13,999 $9,195
Annualized Compound Return
Missed 1 Best Day
Missed 5 Best Single Missed 15 Best Single Missed 25 Best Single Days Days Days
One-Month US T-Bills
Performance data for January 1970-August 2008 provided by CRSP; performance data for September 2008-December 2012 provided by Bloomberg. The S&P data are provided by Standard & Poor’s Index Services Group. US bonds and bills data © Stocks, Bonds, Bills, and Inflation Yearbook™, Ibbotson Associates, Chicago (annually updated work by Roger G. Ibbotson and Rex A. Sinquefield). Indexes are not available for direct investment. Their performance does not reflect the expenses associated with the management of an actual portfolio. Dimensional Fund Advisors is an investment advisor registered with the Securities and Exchange Commission. Information contained herein is compiled from sources believed to be reliable and current, but accuracy should be placed in the context of underlying assumptions. This publication is distributed for educational purposes and should not be considered investment advice or an offer of any security for sale. Past performance is not a guarantee of future results. Unauthorized copying, reproducing, duplicating, or transmitting of this material is prohibited. Date of first use: June 1, 2006.
REDW Stanley is a highly respected investment advisory firm with a primary focus on serving clients in the Southwest. As fee-only advisors, we do not receive commissions or sell investment products, so you can be confident that our recommendations and advice are based solely on your needs and with only your success in mind. In Arizona, the firm operates under REDW Stanley Wealth Advisors, LLC, an SEC registered affiliate of REDW LLC. In New Mexico, it operates under REDW Stanley Financial Advisors, an SEC registered firm subsidiary of REDW LLC. Copyright 2013 REDW Stanley Financial Advisors, LLC. All Rights Reserved. This publication is intended for general informational purposes only. The information provided herein is for informational purposes only and should not be construed as investment, financial, tax, or legal advice.
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