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Coal For Christmas?Submitted by Integrity Advisory on November 21st, 2018
Apparently, Santa has decided we are all on the naughty list for 2018. This time of year, we’re usually discussing the upcoming “Santa Clause” rally. Unfortunately, that hasn’t been the case so far this year.
As millions of Americans gear up for Black Friday and Cyber Monday shopping, the stock market usually takes a back seat as it begins its stronger months from a seasonal perspective. The S&P 500 reached a high of 2,940.91 on September 21st and proceeded to drop 11.47% over the next 26 trading days. We often forget that corrections of 10% or more are common and, in normal markets, can occur one to two times per year. We also know that this bull market can’t run forever as we are within six to seven months of marking the longest bull run in US history. This increased volatility—paired with the anxious feeling of a bear market just around the corner—would naturally give you angst.
The stock market and our emotions are intertwined. Along the same line, neuroscientists and behavioral economists argue that biases are hard-wired into our brains and personalities. Some of us are overconfident, taking excessive risks; others too meek, seeking to avoid losses at the first sign of trouble. We’re also biologically programed to look for patterns in unrelated information—seeing the face of Jesus in a piece of toast, or a cloud with an uncanny resemblance to Abraham Lincoln.
“What neuroscience has confirmed is that it’s impossible to make a choice without emotions,” says Mike Ervolini, CEO of Cabot Investment Technology, a Boston-based firm that sells behavioral-finance software to institutional clients.
Some mistakes, he says, arise from the tendency to feel pain from a loss more acutely than pleasure from a gain. Investors sell too quickly when holdings take a few hits but hesitate to build big positions in stocks they like. They hold winners too long, because they overvalue them.
It’s one thing to be aware of behavioral biases—it’s another to keep them in check. Therefore, we use risk-tolerance questionnaires and software to match our clients’ investment goals and objectives with their emotions. Even so, when markets decline, it reminds me of Mike Tyson who used to say, “Everyone has a plan until they get punched in the face.” Yes, investors have taken a financial punch to the face, but it is very recoverable and should not sway one’s long-term plans.
How We Got Here
The latter stages of this bull market have been driven particularly by technology companies. The top 10 stocks in the S&P 500 (a collection of 500 large companies) make up 22% of the index. Those top 10 companies are so large and highly-valued that they can greatly influence the direction of the index because they make up a disproportionately large percentage of that index. Facebook, Amazon, Apple, Netflix, Google and Microsoft are six of those companies, and these six by themselves are 15% of the entire S&P 500 index. So, they drove us up to this point, but now they’re also driving us back down.
As of November 20th, Facebook is down over 40% from its high. Netflix is down almost 40%. Amazon is down over 28%. Apple is down around 24%. Alphabet (Google) is down over 22%, and Microsoft is down 14%. Everyone except Microsoft is in bear territory with drops over 20%.
In times of increased volatility most investors turn to bonds as a safe haven, but with interest rates rising, the Barclays Aggregate Bond Index was also negative for the month of October. This creates a conundrum for investors and advisors alike. Through November 19th, this bond index is negative on the year at -2.38%. Our main bond funds have held up much better. Guggenheim Macro Opportunities is up 1.51%, Performance Trust Strategic Income is up 0.50%, and Guggenheim Total Return is down 0.40% over the same time period.
What Are We Doing?
We noted previously that we were taking steps earlier this year to prepare for increased market volatility. Depending on your risk tolerance, we began adding funds like JP Morgan Hedged Equity, CBOE Vest S&P 500 Buffer Strategy, and Goldman Sachs Managed Futures. These funds are intended to help us hedge our downside risk, and in the case with managed futures, we can sometimes make money while the market is moving down.
Moves in the market can be violent both ways, so while you may feel the need to raise cash please try to resist these urges. Raising cash can mean locking in losses and missing strong upswings in the market or, as one institutional manager recently noted in Barron’s magazine, “You’ve never been rewarded for selling fear… we don’t think you’ll be rewarded now.” This is the reason we ask questions about your risk tolerance—we design a portfolio that can give you the upside without unsettling your stomach when the market moves against us. If you find that this increased market volatility is more than you can bear, please let us know as we need to adjust the amount of risk we’re taking in all market conditions. We can send you an electronic six-question questionnaire to identify your true risk tolerance.
What Happens Next?
Economists have been saying for some time that this market is likely to trudge along at a pedestrian 5% pace per year. While this current market has been painful, it is letting some air out of the balloon that should give us some clear runway for better returns moving forward. Please take a minute to watch the following short video:
Keeping Our Eye On The Prize
As you know, we invest for the purpose of reaching our desired retirement. Our goal has always been to help you retire when you want to and how you want to. These fluctuations will happen in the market, and while they can be painful, they often have little lasting impact on your retirement picture. Now is not the time to worry regarding your investments, but instead to prepare for the holidays with friends and family. However, if you need a reassuring voice regarding your investments, please give us a call. We are happy to talk things through with you, because knowing you’ll be able to retire comfortably often makes these blips in the market much more bearable.