March 13, 2020
Geesh! Call it what you like: big-time hiccup, correction, bear market, whatever. We have seen several of these things over long careers, and “these things” never are fun. Anyone, male or female, young or old, beginner or professional investor, who dismisses it all with a wave of the hand, is kidding himself/herself and you. Still, you know and we know that staying the course with a well-conceived investment plan, even in (particularly in) the time of COVID-19, is essential if one is to deal effectively with the 1974s and the 2008s and the 2020s. The alternative, i.e., having an asset allocation strategy that responds to the 6 A.M. S&P futures or the pain of market volatility or the latest COVID-19 data is a prescription for mediocrity at the very least and, at worst, (dare we say it?) disaster. All of these years watching markets go up and down tell us that this is so.
Let’s see where we currently are and where we should go.
1) Untethered
Someone recently said that the symptoms of extreme fear (and greed for that matter)are equity prices becoming “untethered” from economic/corporate fundamentals. With respect to the fear part, unless COVID-19 becomes a 1300s Europe-type event or a 1918 Kansas-type event – and no one is suggesting anything of the sort – we appear to be in the neighborhood of the untethered. No question, the economy and Corporate America will take a hit; but, putting some numbers on things like this frequently allays fear, and we have a couple of those numbers. We do business with a large economic consulting firm. That firm now is forecasting 1.8% economic growth in both 2020 and 2021. That’s down from 2.1% and 2.0%, so ahit, but not a big-time economic whack.
2) Valuation
By definition, valuation is less relevant in the world of the untethered, but eventually, valuation will rule. At year-end, the S&P 500 Index sold at 24.31x the trailing 12-month earnings of its component companies, and the Index’s current yield was 1.86%. Now, we’re talking 20.63x, and 2.24%. Relative to bonds? Equities fare even better (actually, much, much better). But, let’s put valuation inour terms. At the Christmas Eve 2018 stock market bottom, the average stock in our 10-stock Yield Group had an average yield of 5.17%, and the average yield within the new 2020 Group was 5.80% at the beginning of the year. Now…6.74%. That means, even if those 10 dividends stay the same (they won’t – they’ll increase) and the stocks’ prices are unchanged (from these price levels, please trust us, we’refar more optimistic than that), reinvesting those dividends will allow the investor to double his/her money in 101⁄2 years. U.S. equities in general and the equities of our Yield Group in particular are on sale.
3) Bear Market
We always have thought of this as a colorful phrase, but for now, we’ll go alongwith the definition bandied about in the media bombardment, i.e., at least a 20% decline from a market top. By that definition, we are there, and this in fact is the 13th time we’ve been there since World War II. Not only did we survive the other 12, in all cases, we eventually came out the other side, and prospered. Anyone who sharply reduced his/her equity exposure in the midst of one (one of the 12) probably did himself/herself serious financial damage. Also, little known fact: Bear marketsdon’t always come with economic recessions. If our friends at the economic consulting firm are anywhere close, #13 won’t either. Untethered (see above).
4) Diversification and Discipline
The glamour in this business is selecting winners like ABC and DEF, rather than losers like XYZ, etc. But, frankly, our real value to our clients is helping them come up with an investment plan emphasizing diversification and then urging them to stick with the plan through thick and thin. We’ve helped with the plan; we’re now dealing with the thin. It’s not always easy, but it’s the most valuable part ofwhat we do.
Regarding #4 in particular, if the current fireworks last any length of time, you can count on hearing from two of the most prominent stock market seers of our time: Burton Malkiel, the index fund guru from Princeton, and the great Warren Buffett. At the stock market depths of 2008, each had some words of profound wisdom regarding U.S. equities. They apply in 2020. First, Malkiel. His main contention:
“A century of investing experience, as well as insights from the field of behavioral finance, suggest that investors who bail out of equities during times like these are almost always making the wrong decision.”
Malkiel goes on to say,
“…neither individuals nor investment professionals can consistently time the market. The herd instinct is extraordinarily powerful.”
And finally,
“My own calculations show that in the aggregate investors who moved money in and out of equity mutual funds underperformed the buy-and-hold investors by almost three full percentage points per year during the 1995-2007 period.”
Malkiel’s bottom line advice: Establish an asset allocation mix suitable to your age and circumstances, and then periodically re-establish that mix.
You’ve heard that bottom line advice in this space many times.
And then, there is Warren Buffett, who announced in a late-2008 New York Times piece that he was buying U.S. equities. Why?
“A simple rule dictates my buying: Be fearful when others are greedy and be greedy when others are fearful.”
That said, he echoes Malkiel’s view that attempts by mere mortals to pick market bottoms(and presumably market tops) are futile. Specifically,
“Let me be clear on one point: I can’t predict the short-term movements of the stockmarket. I haven’t the faintest idea as to whether stocks will be higher or lower amonth – or a year – from now. What is likely, however, is that the market will move higher, perhaps substantially so, well before either sentiment or the economy turnsup. So, if you wait for the robins, spring will be over.”
In 2020 terms, we can substitute “the COVID-19 problem officially has been resolved” for “either sentiment or the economy has turned up,” which (again) was applicable to 2008.
Two remarkable investors, two remarkable and always timely sets of observations. The overriding objective: to strip away the emotion that threatens to control all of our actions during times like these. U.S. equities eventually will become “tethered,” and valuationeventually will rule. Times like these? Regrettably, they are a fact of life, but major asset allocation changes in the midst of times like these almost always end up seriouslydamaging one’s financial health. We’ve seen it in other such times. The time of COVID- 19 will pass. As usual, it’s all about diversification and discipline.