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2017 Q4 Newsletter

Of Fear and Greed

While traditional “safe” havens such as cash, CDs, and bonds all returned less than 1%, equity investors enjoyed a truly remarkable 2017. Considering the returns for S&P 500 were positive in all twelve calendar months, the major equity indices posted gains of 15% to 35%, and the maximum peak-to-trough decline was a paltry 3% hiccup, investors had every right to break out the Champagne on New Year’s Eve and celebrate. But now it’s time to return to reality.

Since the onset of the Great Recession, I have had to work very hard to overcome investors’ fear of equities. I actually took great comfort in this, knowing full well that bull markets typically have much farther to run while the prevailing sentiments toward them are mistrust, apathy, and fear. However, having enjoyed annualized returns in excess of 15% over the past eight years (interrupted by only a brief three-month Baby Bear Market in 2011) I am beginning to sense a shift in investors’ attitudes toward equities. Questions from clients and prospects have gradually morphed from “Shouldn’t we get out of stocks until things settle down?” into such queries as “Why did my value funds underperform?” and “Can you research XYZ Pharmaceuticals?” and even the occasional “What do you think of hedge funds/marijuana stocks/bitcoin?”

Granted, questions such as these are extremely rare and have come from only a handful of relatively new clients. After all, the overwhelming majority of you have heard me champion our Four Pillars of a Successful Investment Experience so convincingly, so repeatedly, and for so long that I suspect you could recite my responses verbatim. But the fact that such thoughts are creeping back into the minds of investors is a tangible reminder that we need always be on guard against complacency. That said, please indulge me as I kick off 2018 with a firm dose of reality:

  • The average historical intra-year decline of the S&P 500 has been almost 15%, meaning we should expect our equity portfolios to decline by at least 15% over the course of any given year.
  • Since the end of World War II, the S&P 500 has declined by 20% or more on fourteen different occasions, meaning we should expect our equity portfolios to decline by at least 20% every five years.
  • The S&P 500 declined by almost 50% during the Bear Markets of 1928-29, 1973-74, 2000, and 2008-09.
  • Make no mistake, I am as optimistic about the prospects for the Great Companies of the World going forward as I ever have been, especially when compared to the miserable yields currently offered by their primary alternative, bonds. In fact, for the first time this century, the global economy appears to be growing in synch with the U.S., unemployment is hovering near 4%, the U.S. economy is on track for a third consecutive quarter of 3% growth in GDP, household net worth is approaching $100 trillion, and lower taxes bode well for business investment, job/wage growth, and consumer spending in the years to come. I am simply offering a not-so-subtle reminder that the high returns/low volatility environment we experienced in 2017 was an anomaly and we would be foolish not to expect volatility, corrections, and Bear Markets to return in 2018 and beyond. Truth be told, I am looking forward to the next healthy correction separating speculators from their shares and returning them to lifetime equity investors like us.

    Anecdotal observations aside, our Financial Plans and Engineered Portfolios are designed to give you the highest probability of achieving your lifetime goals, regardless of market conditions. It should come as no surprise to anyone to learn that, regardless of what 2018 brings, we will rigidly adhere to our disciplined approach.

    Although I have no idea how equities will behave, I do know that 2018 will be a year of gratitude and reflection for me as I celebrate my 50th birthday, 25th wedding anniversary, and DEM’s 20th year of Intelligent Investing. I will have much more to say on each of these topics as the year unfolds. In the meantime, suffice it to say Happy New Year!

    Don Davey
    Senior Portfolio Manager
    Disciplined Equity Management
    Plan Appropriately, Invest Intelligently, Diversify Broadly, Ignore the Noise



    2017 Q4inde Market Index Returns

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