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Do you need a hug? 

To say investing has been challenging the first half of this year is an understatement. Stocks (as measured by the S&P 500 Index) have had one of the worst starts of the year – ever. Bond values (as measured by the Bloomberg Barclays Aggregate Bond Index) have never suffered such steep declines in such a brief period. Inflation is at its highest level in 40 years, especially visible at the gas pump, which means your money isn’t going as far as it used to. The Federal Reserve (Fed) has raised rates quickly and substantially and will continue to do so until inflation is back under control. So far, 2022 hasn’t been pretty for investors, but things can get better.

Question #1: "So, should I get out of the markets and just go to cash?"

 The short answer is....stick to the plan. We have always encouraged clients to have emergency funds; we are not investing tomorrow’s lunch money. The money invested is for your lifetime, regardless of how much time you have. Besides, it’s likely you have already made it through the worst part of this decline. At its worst point, the S&P 500 fell about 24% from its all-time high. Then we had June, where 90% of S&P 500 companies declined five days out of seven – this has NEVER happened before. It has been painful, but history tells us to stay the course focusing on the future.

Continued market choppiness is likely. The market continues to grapple with new figures on inflation and growth; the Fed is threading a needle attempting to cool the economy “just enough” while heading off a recession.

However, most agree we are closer to the bottom than a top. On a recent episode of the LPL Market Signals Podcast, they referenced that since WWII, when the S&P 500 was down over 5% two weeks in a row (as happened in June) one year from now the index was, on average, 20% higher six out of seven times. When the S&P 500 is down 15% in a quarter (which happened in Q2) the index is up 26% on average a year later eight out of eight times. This is encouraging! 

Question #2: "Why didn't KWB do anything to protect my portfolio from this?"

First off, the economy may not be as bad as advertised. For instance, personal income (wages) rose quickly throughout the year. Significant job gains mixed with low initial and ongoing unemployment claims plus a massive number of job openings makes a healthy recipe for a strong consumer, the main driver of the economy. If we do go into a recession, or are already in one, it will likely be shallow and not as dramatic as the 2000, 2008 recessions, or the quick pandemic recession of 2020.

In a recent insight from economist Dr. David Kelly of J.P. Morgan, he noted that since 1947, the U.S. economy has endured 12 economic recessions. During this same time span, we’ve seen 12 equity bear markets (defined as a price decline of 20% or more in the S&P 500). However, there have been four recessions that didn’t experience a bear market and four bear markets that didn’t coincide with a recession, so the correlation is by no means perfect. Also notable is that the stock market leads the economy. In seven of the eight recessionary bear markets, the stock market peaked before the economy (by an average of six months), and in seven of eight, the stock market troughed before the economy bottomed (by an average of two months).  

First, all of this points to the peril in trying to time investments around recessions. We don’t know, particularly because of today’s very unusual configuration of economic forces, whether we will have a recession or when it will start. We don’t know where the trough will be in today’s equity bear market or how soon forward-looking investors will start betting on a recovery, should a recession occur.

Second, we have done a lot in the lead up to the beginning of this year to protect portfolios. 

1) Rebalancing. With the considerable amount of growth in equites the last few years, a traditional 60% stock/40% bonds and cash portfolio would have grown to a 70%-75% stock allocation without regular rebalancing. By reviewing risk tolerances and rebalancing accounts back to the appropriate risk levels, we reduced portfolios from larger losses. 

2) Avoiding the highflyers. There are many areas in the stock market currently down 70% or more: high flying growth names that didn’t have the earnings to back up lofty valuations and cryptocurrencies. We’ve constructed portfolios that don’t dabble in these areas unless explicitly directed to do so. By keeping to tried and true asset allocation principles and avoiding these highflyers (and huge decliners), we have protected portfolios from larger losses. 

3) Liquidating from short-term bonds. While even short-term bonds are down in price, they have lost significantly less than other instruments. For investors taking monthly income, or needing small distributions from accounts, we will strategically sell from less hard-hit parts of your portfolio for the time being. This allows the opportunity for faster growing stocks to come back to previous levels.

Question #3: "But I don't have time to make it back to where I was."

This is a difficult one. Everyone has a different time horizon for their money. However, history can be a good guide for setting expectations. Going back to the Great Recession also known as the “Financial Crisis” we can see how long it took for portfolios to recover.

CHART ONE: Source – J.P. Morgan Asset Management, Barclays, Bloomberg, FactSet, Standard & Poor’s.

From the peak in October 2007, it took a 60/40 portfolio about three years to fully recover. In that recession, a 60/40 portfolio lost around 25-30% of its value. If this slowdown/recession is not as bad as the Great Recession, we can say with some confidence that portfolios should recover more quickly. Assuming you are investing, chances are you have more than three years left in your investment lifetime. If you don’t, then it might not matter or, better yet, you are fortunate and are able to let the funds build for your family or legacy. 

Question #4: "Sure, but what if I run out of money?"

This is where having a trustworthy wealth manager and a strong financial plan can make a significant difference. In our financial plans, we have purposefully used lower portfolio growth assumptions because we know economic volatility, recessions, and bear markets occur. The market cannot and will not go up in a straight line, so we build in long-term estimates reflecting this. Hopefully, this helps investors from a behavioral perspective knowing that we have anticipated and planned for these moments of market volatility. However, investors need to be realistic about their spending habits, expectations, volatility, and focus on the things they can control. That is why embracing some historical perspective is essential. Planning for these times of market turmoil enables us to be confident that our money will last if we keep our emotions and patience intact. 

Nothing could be more relevant to our current situation than Abraham Lincoln’s favorite saying. He loved it because it was applicable in any and every situation one could encounter. Looking back at the history of US stock market performance, I believe it’s especially appropriate now: “This too shall pass.”

As always, if you have any questions, please contact us, and stay safe.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.  To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing.

All performance referenced is historical and is no guarantee of future results.  All indices are unmanaged and cannot be invested into directly

The Bloomberg Barclays U.S. Aggregate Bond Index is an index of the U.S. investment-grade fixed-rate bond market, including both government and corporate bonds.

The Standard & Poor’s 500 Index is a capitalization weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.

Investing involves risk including loss of principal.

No strategy assures success or protects against loss.  The economic forecasts set forth in this newsletter may not develop as predicted and there can be no guarantee that strategies promoted will be successful.