Quarter in Review + Financial Market Update 6.30.2020

Quarter in Review + Financial Market Update 6.30.2020

FINANCIAL MARKET UPDATE 6.30.2020

AUTHOR: JOSH JENKINS, CFA

STORY OF THE WEEK

QUARTER IN REVIEW

As we get ready to roll into July, it’s hard to believe we are already at the midpoint of 2020. It has been a tale of two quarters so far this year, as one of history’s most vicious selloffs stopped on a dime and transitioned into a record-setting rally. With Q2 (nearly) in the books, here is a look back at some of the major developments during the quarter.

Stocks Rallied

The stock market bottomed on March 23rd and then exploded higher, delivering the largest 50 day advance since the 1930s. Despite the stock market gains, economic data continued to deteriorate. For example, the unemployment rate didn’t peak until April, when it logged the highest reading since the Great Depression (14.7%). The market looked beyond the worsening economic data and saw good times ahead.

Up 18.7% in Q2 with just one trading day left, the S&P 500 is on pace for the best quarterly return since Q4 1998. The index briefly hit positive territory for the year on June 8th but has since pulled back.

S&P 500 Return:

  • March(1)  15.57%
  • April         12.82%
  • May           4.76%
  • June(2)       0.43%

Source: Morningstar Direct. (1) March Return calculated from the market bottom on 3/24/20. (2) June return through calculated through 6/29/20.

Economic Data Turned the Corner

The National Bureau of Economic Research (NBER) is the organization tasked with determining the peaks and troughs of the business cycle, making it the official arbiter of recessions. In early June, NBER declared a recession had begun in February 2020. The previous expansion, which began in June 2009, lasted 128 months and was the longest on record, going back to 1854!  Recessions are typically defined as two consecutive quarters of declining gross domestic product (GDP). NBER determined that the slowdown in economic activity was so pronounced that it qualified as a recession without satisfying the time-based criteria.

Recent data releases suggest economic activity may have bottomed in April. As government officials eased restrictions aimed at combating the spread of COVID-19, previously idled components of the economy have come back online. Both the unemployment rate and retail sales (among others) improved dramatically in May. While we are still far from pre-pandemic levels across economic indicators, most economists expect continued improvement in the near term.

Covid-19 Cases Resurged

A resurgence in new Covid-19 cases in parts of the country may complicate the picture. States including Texas, Arizona, California and Florida recently paused and/or rolled back plans to ease restrictions. While the market reaction to this has been muted thus far, there is the possibility this trend could jeopardize the rise in asset prices and economic activity. It is impossible to tell how all of this will play out in the coming quarter(s).

Where Do We Go From Here?

Given the uncertain path ahead of us, now is a good time to ensure portfolios are diversified and are taking on a level of risk that is appropriate. Other activities that are likely to add value include tax-loss harvesting and rebalancing. Despite the recent rally, a large portion of the market is still negative. Harvested losses can be used to offset gains elsewhere in the portfolio now or in the future. Rebalancing is particularly beneficial when markets are choppy, which appears likely following the initial recovery. Doing so constitutes buying on weakness and selling on strength (buy low, sell high).

Lutz Financial would like to wish everyone a Happy 4th of July, and we hope you have a fun and safe holiday weekend. Thanks for reading.

 

WEEK IN REVIEW

  • Economic data from May continues to show significant improvement. Last Thursday, durable goods orders (typically large items meant to last at least three years) increased by 15.8%, versus the expectation of a 10% increase. This jump in orders follows negative readings of 17% and 18% in March and April, respectively. Automakers contributed to the strong print, with a 28% increase.
  • The U.S. announced that it will be revoking the special trade relationship with Hong Kong, citing decreased autonomy from Mainland China following the approval of the National Security Law by China’s national People’s Congress. The fallout from this is not completely clear, but it does put at risk the free trade between the U.S. and Hong Kong, where there is currently a sizable trade surplus (as opposed to a large deficit with China).
  • Major reports to watch for during this holiday-shortened week include manufacturing data and the minutes from the last FOMC meeting on Wednesday, and the jobs report on Thursday.

HOT READS

Markets

  • U.S. Consumer Confidence for June Jumps More than Expected (CNBC)
  • Mainland Chinese Stocks Jump as the Country’s June Manufacturing Activity Beats Expectations (CNBC)

Investing

  • How Would Investors React If We Finally Get Some Inflation (AWOCS)
  • Markets Bombed, Investors Carried On (Zweig)

Other

  • It’s Time to Decide What to Do With Your Airline Credit Cards (WSJ)
  • How to Get a Big Break on the Cost of College: Just Ask (WSJ)
  • Why The Smartest People Make Bad Decisions Compared to Those With Average IQ (CNBC)

ECONOMIC CALENDAR

Source: MarketWatch

MARKETS AT A GLANCE

Source: Morningstar Direct.

Source: Morningstar Direct.

Source: Treasury.gov

Source: Treasury.gov

Source: FRED Database & ICE Benchmark Administration Limited (IBA)

Source: FRED Database & ICE Benchmark Administration Limited (IBA)

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ABOUT THE AUTHOR

402.763.2967

jjenkins@lutz.us

LINKEDIN

JOSH JENKINS, CFA + SENIOR PORTFOLIO MANAGER & HEAD OF RESEARCH

Josh Jenkins is a Senior Portfolio Manager & Head of Research at Lutz Financial with over nine years of investment experience. He is responsible for assisting clients in the construction, selection, and risk assessment of their investment portfolios. In addition, Josh will provide on-going research and trade support.

AREAS OF FOCUS
  • Asset Allocation & Portfolio Management
  • Investment & Market Research
  • Trading
AFFILIATIONS AND CREDENTIALS
  • Chartered Financial Analyst (CFA)
  • Chartered Financial Analyst Institute, Member
  • Chartered Financial Analyst Society of Nebraska, Member
EDUCATIONAL BACKGROUND
  • BSBA, University of Nebraska, Lincoln, NE

P: 402.827.2300 | F: 402.827.2319 | E: contact@lutzfinancial.com | 13616 California Street | Suite 200 | Omaha, NE 68154

All content © 2017 Lutz Financial  | Important Disclosure Information |  Privacy Policy

FORM CRS RELATIONSHIP SUMMARY

Quarter in Review + Financial Market Update 6.30.2020

Investment Fund Expenses Declined Last Year + Financial Market Update + 6.23.2020

FINANCIAL MARKET UPDATE 6.23.2020

AUTHOR: JOSH JENKINS, CFA

STORY OF THE WEEK

INVESTMENT FUND EXPENSES DECLINED LAST YEAR

Each year an analysis of expenses charged by the fund industry is published by the investment research firm, Morningstar. The most recent version of this report was published earlier this month, and it revealed a few positive trends that benefit investors. Below are some highlights from the report and a few reasons why they are important.

Fund Expenses are Trending Lower

Fund expenses have steadily declined for nearly 20 years as competition in the fund industry has increased, and passive investing has grown in popularity (among other reasons). There are a handful of ways to look at expenses. A few of the common approaches are illustrated in the chart below. Nearly all of the methods yield the same result: fund expenses fell to the lowest level on record last year.

  • The equal-weighted average expense on all funds fell from 1.03% to 1.01% in 2019.

  • If you weight by assets, which provides a more accurate view of what investors actually paid, the average expense declined from 0.48% to 0.45%. For context, 0.45% is roughly half of the asset-weighted average expense in 1999 (0.87%).

  • The asset-weighted average expense fell from 0.68% to 0.66% among active funds and fell from 0.14% to 0.13% among passive funds. 

Assets are flowing from High to Low-Cost Funds

The pattern of fund flows has shifted dramatically over the last five years. Investors have been dumping high-cost active funds at a rapid pace in favor of lower-cost funds. While the cheapest quintile of active funds continues to attract assets, the majority of dollars have moved into passive. Overall, 93% of the $581 million of net new money in 2019 landed in the cheapest 10% of funds.

Why These Trends Matter

The benefit of a decline in fund expenses does not require much explanation. Money not paid to fund providers remains in the portfolio and compounds over time. The flow of money into the lowest cost options is also a positive development. Investors often rely on performance when evaluating potential investment options, selecting the fund(s) that have generated the highest returns in the past. The expectation is that the previous winners will keep winning, although, in reality, they are just as likely to start losing. Studies have shown that past returns are not indicative of future performance, while fund expenses are among the most reliable indicators(1). As a result, investment outcomes are likely to improve on average as money flows into cheaper alternatives.

At Lutz Financial, keeping costs low is one of the core tenets of our investment philosophy. To accomplish this, we use an array of tools at our disposal to monitor the landscape consisting of thousands of fund options regularly. Doing so ensures our clients benefit from the tailwind provided by these trends.

1 Financial Research Corporation, 2002. Predicting Mutual Fund Performance II: After the Bear.

WEEK IN REVIEW

  • The S&P 500 index gained just under 2.0% last week, partially rebounding from a nearly 5% decline from the week prior. It is now down roughly 2.5% in 2020.
  • Last week, the Conference Board published its monthly Index of Leading Economic Indicators (LEI). The index is comprised of 10 metrics that are intended to signal turns in the business cycle. After two sharply negative prints in March and April, the LEI turned positive in May. While May’s gain is nowhere near large enough to recoup the previous declines, its uptick is a positive sign for the economy.
  • Notable economic data releases still to come this week include new orders for long-lasting goods in May, an update on initial jobless claims (a proxy for layoffs), consumer spending, and inflation. See the Economic Calendar for more detail.

HOT READS

Markets

  • May U.S. Home Sales Dropped 9.7% as Pandemic Kept Shoppers Indoors (WSJ)
  • Global Economy Shows Signs of Pulling Out of Its Slump (WSJ)

Investing

  • Invest With The Upper Crust and Sometimes You just Get Crumbs (Zweig)
  • The Latest Memo from Howard Marks: The Anatomy of a Rally (Oaktree Capital)
  • Beware: ‘Zombie ETFs’ Lurking (ETF.com) The importance of ETF Due Diligence

Other

  • The Credit Card-Fees Merchants Hate, Banks Love and Consumers Pay (WSJ)
  • Sources: MLB Targets 60-Game Season Starting Around July 24, Assuming Conditions Met (ESPN)

ECONOMIC CALENDAR

Source: MarketWatch

MARKETS AT A GLANCE

Source: Morningstar Direct.

Source: Morningstar Direct.

Source: Treasury.gov

Source: Treasury.gov

Source: FRED Database & ICE Benchmark Administration Limited (IBA)

Source: FRED Database & ICE Benchmark Administration Limited (IBA)

Do you want to receive financial market updates in your inbox? Sign up here! 

ABOUT THE AUTHOR

402.763.2967

jjenkins@lutz.us

LINKEDIN

JOSH JENKINS, CFA + SENIOR PORTFOLIO MANAGER & HEAD OF RESEARCH

Josh Jenkins is a Senior Portfolio Manager & Head of Research at Lutz Financial with over nine years of investment experience. He is responsible for assisting clients in the construction, selection, and risk assessment of their investment portfolios. In addition, Josh will provide on-going research and trade support.

AREAS OF FOCUS
  • Asset Allocation & Portfolio Management
  • Investment & Market Research
  • Trading
AFFILIATIONS AND CREDENTIALS
  • Chartered Financial Analyst (CFA)
  • Chartered Financial Analyst Institute, Member
  • Chartered Financial Analyst Society of Nebraska, Member
EDUCATIONAL BACKGROUND
  • BSBA, University of Nebraska, Lincoln, NE

P: 402.827.2300 | F: 402.827.2319 | E: contact@lutzfinancial.com | 13616 California Street | Suite 200 | Omaha, NE 68154

All content © 2017 Lutz Financial  | Important Disclosure Information |  Privacy Policy

FORM CRS RELATIONSHIP SUMMARY

Quarter in Review + Financial Market Update 6.30.2020

Making Sense of Recent Market Moves + Financial Market Update + 6.16.2020

FINANCIAL MARKET UPDATE 6.16.2020

STORY OF THE WEEK

MAKING SENSE OF RECENT MARKET MOVES

The market hit a small milestone last Monday (6/8) when the S&P 500 moved back into positive territory for 2020. Time spent in the green was short-lived, however, as volatility returned soon after and culminated in a nearly 6% drop for the index on Thursday (6/11). When a single-day move of this magnitude occurs, it is human nature to want to understand why it happened. Before we dive into what may have been behind it, let’s take a step back and broaden our view of what has been happening in the markets.

After bottoming on March 23rd, stocks have been on an absolute tear. The economy, meanwhile, has yet to see a meaningful recovery. This disconnect has led to considerable confusion among investors, but there are a number of factors that are likely supporting the rally: 

  1. We Appear To Have Avoided The Worst-Case Scenarios Related To The Pandemic (at least thus far)
  2. Monetary Stimulus From The Federal Reserve
  3. Unprecedented Fiscal Stimulus
  4. The Slow Reopening Of The Economy
  5. Signs Economic Data Is Beginning To Improve
  6. Potential Progress In COVID-19 Treatments/Vaccines

The stock market is forward-looking, and prices reflect expectations for the future. For this reason, it is considered a “leading indicator” for the economy. This concept explains why the S&P 500 began to sell off in mid-February, despite confirmed COVID-19 cases and strict social distancing measures not ramping up until mid-March. The factors above have improved the market’s outlook for the future. So while stocks previously fell ahead of the economic downturn, they are now rising ahead of the economic recovery.

To say the market has been on a tear does not do this rally justice. The gains we have seen recently are actually of historic proportions. If you looked at rolling 50-day returns for the S&P 500, the period ending on June 3rd saw the largest return since the 1930s!

S&P 500: Rolling 50 Day Returns

      Date    | Return1

09/07/1932: 108.74%

06/02/1933: 72.57%

07/26/1938: 35.84%

03/06/1975: 26.88%

10/21/1982: 35.77%

05/19/2009: 34.23%

06/03/2020: 39.58%

With this backdrop, let’s turn our attention to the volatility we saw last week. There are two commonly cited reasons for the nearly 6% pullback on Thursday:

  1. A cautious outlook from the Federal Reserve following last week’s FOMC meeting
  2. Reports of new COVID-19 cases accelerating in parts of the U.S. and China

Both factors above appear perfectly logical and likely contributed to the decline, but I think there is a simpler explanation:

  1. The market rallied too far too fast

After delivering the most extreme short term gain in 80 years, the market needed a breather. It is not uncommon for stocks to gain so much momentum that they become overextended. When this occurs, it generally does not take much to upset the apple cart. In this instance, it was the Fed outlook and COVID-19 cases. Still, it could have just as easily been other news, including a bad economic data print, a wave of corporate defaults, diminished expectations for additional fiscal stimulus, failed vaccine trials, and so on. The key point is that a pullback after a strong rally is both normal and healthy.

It is human nature for investors to want to understand the cause behind large market moves. Perhaps the only question they want answered more is: where do we go from here? The market rally could pick up right where it left off, or it could be the start of a painful journey back to the lows. Any investor that knew with certainty how all of this would unfold would profit handsomely, but of course, that is not possible. As such, the most profitable strategy, on average, is likely to be staying disciplined.  

 

1: Returns are cumulative and are based on the S&P 500 PR index (excluding dividends) going back to 1928. Only the peak return within each rallying period is illustrated.  

WEEK IN REVIEW

  • Retail sales jumped by 17.7% in May, logging the largest ever month over month increase and handily beat economists’ estimates. The increase is a very positive sign, as the U.S. economy is largely powered by consumption. Despite the strong print, retail sales remain below pre-COVID levels.
  • Last week the Federal Reserve voted to keep short-term interest rates near zero during its two-day meeting of the Federal Open Market Committee (FOMC). The post-meeting statement indicated that the Fed “expects to maintain this target range until it is confident that the economy has weathered recent events and is on track to achieve its maximum employment and price stability goals.” Included with the statement was the committee’s estimates on economic growth (GDP), which they expect to decline by 6.5% in 2020, before rising by 5% in 2021 and 3.5% in 2022.
  • Other market moving news this week includes the Federal Reserve’s announcement yesterday that they will begin to purchase individual corporate bonds in the secondary market (something it pledged to do in March), a recent study found that the steroid Dexamethasone can reduce mortality rates among critically ill COVID-19 patients, and finally, Fed Chairmen Jerome Powell began two days of congressional testimony today on the current status of monetary policy (he has the ability to move markets every time he speaks publicly). 

HOT READS

Markets

  • U.S. May Retail Sales Surge 17.7% in the Biggest Monthly Jump Ever (CNBC)
  • Record Percentage of Investors Say Stocks are Overvalued, According to BofA Survey (CNBC)
  • Powell Warns of ‘Significant Uncertainty’ about the recovery and says small businesses are at risk (CNBC)

Investing

Other

  • Scientists Hail Dexamethasone as ‘Major Breakthrough’ in Treating Coronavirus (CNBC)
  • How Clean Is The Air on Planes? (CNTraveler)
  • With Real-Life Games Halted, Betting World Puts Action on E-Sports (NYT)

ECONOMIC CALENDAR

Source: MarketWatch

MARKETS AT A GLANCE

Source: Morningstar Direct.

Source: Morningstar Direct.

Source: Treasury.gov

Source: Treasury.gov

Source: FRED Database & ICE Benchmark Administration Limited (IBA)

Source: FRED Database & ICE Benchmark Administration Limited (IBA)

Do you want to receive financial market updates in your inbox? Sign up here! 

ABOUT THE AUTHOR

402.763.2967

jjenkins@lutz.us

LINKEDIN

JOSH JENKINS, CFA + SENIOR PORTFOLIO MANAGER & HEAD OF RESEARCH

Josh Jenkins is a Senior Portfolio Manager & Head of Research at Lutz Financial with over nine years of investment experience. He is responsible for assisting clients in the construction, selection, and risk assessment of their investment portfolios. In addition, Josh will provide on-going research and trade support.

AREAS OF FOCUS
  • Asset Allocation & Portfolio Management
  • Investment & Market Research
  • Trading
AFFILIATIONS AND CREDENTIALS
  • Chartered Financial Analyst (CFA)
  • Chartered Financial Analyst Institute, Member
  • Chartered Financial Analyst Society of Nebraska, Member
EDUCATIONAL BACKGROUND
  • BSBA, University of Nebraska, Lincoln, NE

P: 402.827.2300 | F: 402.827.2319 | E: contact@lutzfinancial.com | 13616 California Street | Suite 200 | Omaha, NE 68154

All content © 2017 Lutz Financial  | Important Disclosure Information |  Privacy Policy

FORM CRS RELATIONSHIP SUMMARY

Quarter in Review + Financial Market Update 6.30.2020

Average Isn’t Normal for Stocks + Financial Market Update + 6.9.2020

FINANCIAL MARKET UPDATE 6.9.2020

STORY OF THE WEEK

AVERAGE ISN’T NORMAL FOR STOCKS

The rally that began in late March remains in full force, with pockets of the stock market returning to positive territory for the year. Over the past few months, this wild ride has delivered one of the most rapid price declines in history, followed by a rebound that was nearly as fast. At this point, I think most investors are ready for things to get back to normal. For the stock market, however, “normal” is anything but.

The chart below illustrates yearly returns for stocks going back to 1926. The average annual return during this period was roughly 10%. The shaded green area in the chart represents the average return +/- 3% and provides us with a range for a “normal” return. What strikes me about this chart is that the return rarely falls within this range. Only 8 of the 94 years analyzed saw a return near the 10% level. Historically, the market has actually been more likely to deliver a return that could be considered extreme:

  • Number of years with a > 30% gain: 20
  • Number of years with a > 10% loss: 11

Source: Morningstar Direct. Data from 1926-2019. Stocks were represented by the IA SBBI US Large stock TR USD Index.

The stock market oscillates between frequent large gains and relatively infrequent losses. Historically, returns have averaged roughly 10% per annum, but it’s rare for the market to actually deliver that in a given year. This pattern can play with investors’ emotions, creating the fear of missing out when stocks are soaring, and often an even greater fear of losing everything when they are falling. Investment decisions based on these feelings often lead to undesirable outcomes as investors add risk near the market top, and liquidate near the bottom. It pays for investors to be aware of this pattern, stick to their financial plan, and not be driven by emotion at the extremes.

While a return to normal could mean a break from the historic price swings we have experienced this year, it does not necessarily mean smooth sailing ahead. “Normal” for the stock market means prices will vary widely from the average. For investors to benefit from the long-term market gains, they must remain disciplined. 

WEEK IN REVIEW

  • On Friday, the Labor Department published the jobs report, which showed the economy added 2.5 million jobs during May (by far the biggest single-month gain in history). This was a rather shocking figure, as Wall Street was expecting another 8.3 million in job losses. The unemployment rate fell from 14.7% to 13.3%. While this positive news may signify that the economy is turning the corner, a single data point does not constitute a trend, and there could be downward revisions to this figure in the next report.
  • The National Bureau of Economic Research (NBER), the organization responsible for maintaining the breakpoints for the U.S. business cycle, announced that the U.S. has officially entered into a recession. Typically a recession is defined as two consecutive quarters of negative GDP growth. However, given the “unprecedented magnitude of the decline in employment and production and its broad reach across the entire economy,” the NBER determined the current downturn already qualifies. This recession ended the record 128-month expansion that followed the financial crisis in 2008.
  • After losing roughly 34% during the 21 trading days between February 20 and March 23, the S&P 500 moved back into positive territory for the year yesterday (6/8/20). It took the index 53 trading days from the market bottom to reach this point, though it remains slightly below the all-time high achieved prior to the selloff in February.

HOT READS

Markets

  • May Sees Biggest Jobs Increase Ever of 2.5 Million as Economy Starts to Recover from Coronavirus (CNBC)
  • The U.S. entered a recession in February, According to the Official Economic Arbiter (CNBC)
  • The U.S. Economy Is Now in Recession. Here Are 3 Things to Watch at This Week’s Fed Meeting (Barron’s)

Investing

  • This Bull Market Isn’t as Big as You Think (Zweig)
  • Five Tips for Recovering from Covid-19 Panic Selling (Bloomberg)

Other

  • Could Bruce Lee Win a Real Fight? (ESPN)
  • Pandemic Brings Out Kids’ Sneak Side: Forbidden Apps, Burner Phones (WSJ)

ECONOMIC CALENDAR

 

Source: MarketWatch

MARKETS AT A GLANCE

Source: Morningstar Direct.

Source: Morningstar Direct.

 

Source: Treasury.gov

 

Source: Treasury.gov

 

Source: FRED Database & ICE Benchmark Administration Limited (IBA)

 

Source: FRED Database & ICE Benchmark Administration Limited (IBA)

Do you want to receive financial market updates in your inbox? Sign up here! 

ABOUT THE AUTHOR

402.763.2967

jjenkins@lutz.us

LINKEDIN

JOSH JENKINS, CFA + SENIOR PORTFOLIO MANAGER & HEAD OF RESEARCH

Josh Jenkins is a Senior Portfolio Manager & Head of Research at Lutz Financial with over nine years of investment experience. He is responsible for assisting clients in the construction, selection, and risk assessment of their investment portfolios. In addition, Josh will provide on-going research and trade support.

AREAS OF FOCUS
  • Asset Allocation & Portfolio Management
  • Investment & Market Research
  • Trading
AFFILIATIONS AND CREDENTIALS
  • Chartered Financial Analyst (CFA)
  • Chartered Financial Analyst Institute, Member
  • Chartered Financial Analyst Society of Nebraska, Member
EDUCATIONAL BACKGROUND
  • BSBA, University of Nebraska, Lincoln, NE

P: 402.827.2300 | F: 402.827.2319 | E: contact@lutzfinancial.com | 13616 California Street | Suite 200 | Omaha, NE 68154

All content © 2017 Lutz Financial  | Important Disclosure Information |  Privacy Policy

FORM CRS RELATIONSHIP SUMMARY

Quarter in Review + Financial Market Update 6.30.2020

Getting Out is the Easy Part + Financial Market Update + 6.2.2020

FINANCIAL MARKET UPDATE 6.2.2020

STORY OF THE WEEK

GETTING OUT IS THE EASY PART

Famous studies conducted by Daniel Kahneman and Amos Tversky in the late 1970s described how individuals assess potential gains relative to losses. From that research, they developed what is known as Prospect Theory, which challenged existing views on how people make decisions. Daniel Kahneman would later receive the Nobel Prize in Economics in 2002 for the work.

Among the conclusions from the research was the fact that people feel the pain of a loss twice as intensely as the pleasure they feel from a gain. While we may not need a Nobel Prize winner to tell us people disdain losing money, the asymmetry in how people experience gains versus losses helps to explain why they go to great lengths to avoid the latter. This has been on full display in 2020. As the stock market decline deepened during the 1st quarter, many investors wanted out of their investments to avoid further losses.

I have written in the past about how impactful missing a few of the best days in a year can be on investment performance. An unfortunate reality is that many of the best days in the market seem to follow many of the worst days. So, if you liquidate your portfolio during a volatile period, you are likely to miss some strong rallies. The table below illustrates the average annual return on the S&P 500 going back thirty years (11.45%). It also shows what happens to the average annual return if the best days each year are stripped out.

  • If the best day of each year is missed, the average return declines by a third to 7.72%.
  • If the two best days are missed, the return is more than cut in half.
  • If an investor were to miss the four best days each year, the average annual return over the thirty-year period becomes negative!

Despite the high cost of being out of the market, the decision to get back in is very challenging. Some people will try to time the market on reentry, which is another (impossible) challenge. The recovery begins only after the market reaches its lowest point, presumably when expectations about the future are the grimmest. It requires a lot of courage to invest at that moment, and there is always the risk that things deteriorate further.

Others want the dust to settle and for things to calm down before they are ready to dip their toes back in. The problem with this approach is that by the time things are “calm,” the market has already rallied substantially. This appears to be the situation we find ourselves in currently.

The day after the S&P 500 hit the low, the market jumped more than 9%. Within three days, the market was up nearly 17%. As of June 1st, the S&P 500 has gained 36%. Even after this blistering rally, many are still not convinced we are out of the woods. It’s easy to see how people end up waiting so long that they are forced with the prospect of buying back in at a higher price than where they sold. That is a tough pill to swallow and can result in an investor remaining out of the market indefinitely.

There is no way to know if the rally will continue, or if we will end up retesting the low from March. What we DO know is that it is critical to be invested during those “best days,” because they ultimately drive a substantial part of a portfolio’s performance. Our instinct is to try to avoid losses, but getting out is the easy part. Investors must also consider the challenge of getting back in.

WEEK IN REVIEW

  • There were a handful of key data releases over the last week. 1st quarter GDP was revised lower from -4.8% to -5.0%. Personal consumption expenditures excluding food and energy (the Fed’s preferred inflation gauge) fell from 1.7% in the previous month to 1.0%. Business investment fell roughly 6% in April, which is bad, but much better than the forecast 15% decline. Finally, data published yesterday from the Institute for Supply Management (ISM) showed that the U.S. manufacturing sector continues to decline, but at a slower pace than the previous month.
  • Since 1997, when the United Kingdom returned control of Hong Kong to China, Hong Kong has enjoyed a favorable trading relationship with the United States under the “One Country, Two Systems” framework. This special relationship looks to be in jeopardy following a new Security Law that has been imposed on Hong Kong from China. It has led the U.S. to conclude that Hong Kong no longer has enough autonomy to continue the special relationship. This will have many consequences, potentially including more restrictive measures applied to about $66bn in goods traded between the two nations.  
  • Later this week, we will get an update on the labor market, with the ADP payroll report on Wednesday, initial jobless claims on Thursday, and the Nonfarm payrolls report on Friday.

HOT READS

Markets

  • Why the Stock Market is Up Amid Chaos in the Streets (CNBC)
  • What It Means For Investors if Hong Kong Loses its Special Status with the U.S. (CNBC)
  • All of the World’s Money and Markets in One Visualization (Visual Capitalist)

Investing

  • Latest Memo from Howard Marks: Uncertainty II (Howard Marks)
  • This is the Thing the Bears Hate the Most (Josh Brown) There is no good or bad, its better or worse
  • Why We’re Blind to Probability (Collaborative Fund)

Other

  • Hong Kong’s Security Law: What China is Planning, and Why Now (WSJ)
  • How Sleep Has Changed in the Pandemic: Insomnia, Late Bedtimes, Weird Dreams (WSJ)
  • Coronavirus Pandemic Claims Another Victim: Robocalls (AP)

ECONOMIC CALENDAR

Source: MarketWatch

MARKETS AT A GLANCE

Source: Morningstar Direct.

Source: Morningstar Direct.

Source: Treasury.gov

Source: Treasury.gov

Source: FRED Database & ICE Benchmark Administration Limited (IBA)

Source: FRED Database & ICE Benchmark Administration Limited (IBA)

Do you want to receive financial market updates in your inbox? Sign up here! 

ABOUT THE AUTHOR

402.763.2967

jjenkins@lutz.us

LINKEDIN

JOSH JENKINS, CFA + SENIOR PORTFOLIO MANAGER & HEAD OF RESEARCH

Josh Jenkins is a Senior Portfolio Manager & Head of Research at Lutz Financial with over nine years of investment experience. He is responsible for assisting clients in the construction, selection, and risk assessment of their investment portfolios. In addition, Josh will provide on-going research and trade support.

AREAS OF FOCUS
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  • BSBA, University of Nebraska, Lincoln, NE

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A 100-Year Bet Gone Bad

A 100-Year Bet Gone Bad

 

LUTZ BUSINESS INSIGHTS

 

A 100-Year Bet Gone Bad

A 100-year bet gone bad

JUSTIN VOSSEN, INVESTMENT ADVISER, PRINCIPAL

 

Back in 1997, the markets were roaring. The Dow Jones industrial average was completing its third straight year of 20-percent-plus returns, essentially rewriting the record books. Tech IPOs were hitting their stride as Amazon.com went public that year. The economy was expanding at a 4.4% pace, and the cumulative effect of all of these things caused Fed Chairman Alan Greenspan to warn of “excessive optimism.”

Corporate debt markets did not escape the exuberance, as a new bond type became all the rage. 100-year corporate bonds were being issued from a variety of companies, presumably to match liabilities of insurance companies and others who demanded them.  Companies such as US West, Norfolk Southern railroad, Chrysler, Ford and IBM all issued 100-year debt in various terms. “Century” bonds were the new hit of Wall Street.

One such company, JCPenney Co Inc., joined this elite club by issuing their own 100-year bond. At the time in 1997, J.C. Penney maintained an “A” rating from Standard & Poor’s, which is a middle of the road investment-grade rating by issuer standards. Their stock was trading at record highs coming off the purchase of the Eckerd drug store chain. Suburban mall retail was at its crescendo, and J.C. Penney was coming off record holiday-season sales. 

The irony of Amazon IPO’ing in the same year that J.C. Penney was having its best year is obviously a relevant dichotomy here. It seems so apparent here in 2020 that their fortunes would be intertwined, yet opposite. Today, Amazon is worth more than $1.2 trillion, and J.C. Penney has recently filed for Chapter 11 bankruptcy amid the recent pandemic.

Back in 1997, however, J.C. Penney was able to issue 100-year bonds at a 7.625% coupon. That means that investors required J.C. Penney to pay them an annual interest of 7.625% for 100 years and pay them back their principal at the maturity date in 2097.

It seems ridiculous now (however, you would have received your invested money back in the form of interest by 2011 if you bought them when they were issued in 1997), but they sold $500 million of these bonds in 1997. Here in 2020, these bonds are selling at less than $0.05 on the dollar in the open market as J.C. Penney navigates bankruptcy restructuring.

In hindsight, it’s silly to assume that anyone would make a 100-year bet on any company, especially one in the volatile retail industry. Would investors make the same bet on Amazon today?  Meaning, if Amazon came out with a 100-year bond paying 7.625%, would investors buy it? My guess is that Amazon would not have a problem selling any amount of that bond, especially at that interest rate in today’s low-yield environment. In fact, Amazon has already sold 40-year bonds yielding about 4.5% in the open market, so this is not a stretch.

Many would say the fortress that is Amazon these days should have no problem fulfilling its obligation 100-years from now. However, how can we be so sure? Today’s economy looks spectacularly different from 1997. Who is to say we can imagine what it will look like in 2120?

So, what is the point, and how is it relevant to investors today? I think it’s easy to say we probably wouldn’t suggest buying a 100-year bond from any individual company. The risk in both term and credit is too much for one company, no matter who it is. However, if we are long-term equity investors like Warren Buffett (who says “our favorite holding period is forever”), should we look at owning any company for 100-years? Probably not, but we COULD own an index fund for 100-years.

The S&P 500, for example, is always evolving. Companies come and go, but what it does allow us to do is own a collection of the economy for an indefinite time period. There are companies in the index that won’t make it 100-years. Some of them may not even make it to 2021. Failure for one business, however, often presents opportunities for the survivors, and as the surviving businesses grow, as will the index. Also, I should assume that if national economies expand, companies in that index should reap the profits, thus enhancing my value as a shareholder. 

We don’t have to make the bet that J.C. Penney or even Amazon will be around in 30 or 100 years. We have the luxury of obtaining cost-effective diversification across companies, industries, and geographies, giving us that ‘forever’ holding period if we want it.

Important Disclosure Information

Please remember that past performance may not be indicative of future results.  Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by Lutz Financial), or any non-investment related content, made reference to directly or indirectly in this newsletter will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful.  Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions.  Moreover, you should not assume that any discussion or information contained in this newsletter serves as the receipt of, or as a substitute for, personalized investment advice from Lutz Financial.  To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing.  Lutz Financial is neither a law firm nor a certified public accounting firm and no portion of the newsletter content should be construed as legal or accounting advice.  A copy of the Lutz Financial’s current written disclosure statement discussing our advisory services and fees is available upon request.

ABOUT THE AUTHOR

402.827.2300

jvossen@lutzfinancial.com

LINKEDIN

JUSTIN VOSSEN, CFP®, NAPFA + INVESTMENT ADVISER, PRINCIPAL

 Justin Vossen is an Investment Adviser and Principal at Lutz Financial. With 21+ years of relevant experience, he specializes in providing wealth management and financial planning services for high net-worth families, business owners in transition, endowments and foundations. He lives in Omaha, NE, with his wife Nicole, and children Max and Kate.

AREAS OF FOCUS
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  • Comprehensive Financial Planning
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AFFILIATIONS AND CREDENTIALS
  • CERTIFIED FINANCIAL PLANNER™
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EDUCATIONAL BACKGROUND
  • BSBA in Economics and Finance, Creighton University, Omaha, NE
COMMUNITY SERVICE
  • St. Augustine Indian Mission, Board Member
  • Nebraska Elementary and Secondary School Finance Authority, Board Member
  • St. Patrick's Church, Trustee
  • Mount Michael Booster Club Board
  • Lutz Gives Back, Committee Chair
  • March of Dimes Nebraska, Past Board Member

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