Portfolio Strategy Review Q3 2020

by | Oct 17, 2020 | Portfolio Strategy

“A genius is the man who can do the average thing when everyone else around him is losing his mind.”—Napoleon

Most major economies appear to be coming out of recession. Many economists believe the worst is behind us. Yet not all sectors of the economy have rebounded. In the US, consumer spending grew but at a slower pace. There are 12 million unemployed who weren’t pre-pandemic. That’s much better than over 30 million at the bottom. But job gains are expected to stall and not reach pre-pandemic levels until 2023 according to the economy.com. Several industries are set to announce massive layoffs.

The D.C. drama and dysfunction continues. Fiscal stimulus is in limbo. The path forward is murky and who can predict what mayhem the election may bring.

Short-Term Noise vs Long-Term Success

I received a simple question the other day: why is my account lower than the S&P 500 this year? The S&P 500 is Large Cap Blend asset. It’s all stock. Rather than own just one class and have just one point of failure or success, we own different classes of stock for one primary reason: to gain the benefit of each asset class over time. Over short periods there can be large differences amongst these different classes. Especially during recessions.

All your eggs in one basket is fine. Until the basket falls.

Let me show you what I’m talking about and why it’s important to keep the discipline in place.

Market movements don’t always follow short-term historical patterns. The complex mix of variables that can impact asset values such as valuation, geopolitical issues, interest rates, tax rates, fiscal policy, business spending, product cycles, and emotions is unpredictable.

In the table below we have 12 different asset classes.

Large, mid, and small company classes each have a blend, growth, and value component. The blend combines both growth and value and approximately generates a return that is the average of those two segments.

REITs represent commercial real estate; intermediate treasuries are the bond index; and Case-Shiller data represents US Home prices (I used the national average).

GREEN = the best 4 performing assets in the given period
RED = the worst 4 performing assets in the given period
WHITE = the middle 4 performing assets in the given period

Recessions, Recoveries, and Your Money

Recessions (1-4)

You can see the only thing that is stable and exhibits a consistent pattern over these short-term periods is US Treasuries. This is referred to as “flight to quality” because when investors fear, they want to own safe haven assets. Cash and bonds are important stabilizers that allow you to leave some of your portfolio mix in risky assets during stock market declines.

Owning safe assets helps you stay sane during market panics and enables long-term compound growth in more volatile assets.

In this recession, growth’s outperformance has been unprecedented. “Value” managers are underperforming by a wide margin, and losing their sanity trying to stay competitive until the market turns in their favor. Warren Buffet, the most famed value investor is down about 7% this year. Prompting pundits lacking any kind of perspective to wonder (in print) if the maestro is out of touch. They said the same thing during the 1998-2000 bubble.

10-Year Data

Evaluating stocks over longer-term periods is more appropriate because they are long-term assets. The 2000’s (2000-09) is sometimes referred to as the “lost decade.” It was only lost if you only owned growth assets and weren’t properly diversified or if you sold when your account was down.

Long-Term Data

Over the 20, 30, and 50-year time periods we see more consistency in the patterns. REITs, small and mid-size stocks have tended to grow more than large stocks. Bonds, housing, and large blend have consistently lagged. These assets also have less volatility than small and mid-size stocks, so it follows: less risk, less reward.

The Asset Class Mix: The Most Important Decision

Back to the simple question about the S&P 500. We own a broader mix of assets to gain consistency over time. In other words, owning a mix of assets is doing the “average thing.”

Stocks: more volatile, but they have exhibited consistent long-term outperformance against bonds and real estate. Stocks have tended to outperform inflation 5%-6%, helping owners to maintain their buying power.

REITs: commercial real estate is a hybrid asset in that it pays high dividends from tenant leases and provides for price appreciation. Declining interest rates over the past 40 years have aided price appreciation.

Treasury Bonds: have outperformed its longer-term average of 5.0% due to declining rates since the 1980’s. The 10-year bond is currently yielding about 0.70%. Generating low-risk income is challenge right now. We can look to munis and corporates for slightly better yields, but it adds some risk.

Home prices: Housing as an asset class tends to rise 1%-2% above inflation. I know, there are periods where there have been rapid price spikes driven by low rates, supply demand imbalances, or if you make a good location bet. However, history tells is it isn’t sustainable. Houses also need roofs, insurance, and annual maintenance!

Real estate is a fine asset to own as part of one’s overall portfolio. It tends to be less volatile than stocks, if only because we can’t trade it daily like we can investment funds. But it hasn’t generated the same bang for the buck as stocks.

Compound wealth accumulation isn’t intuitive, and it requires time. It’s easy to lose patience and perspective when short-term market movements are working against you. Therefore, it’s important to maintain a discipline when everyone is losing their mind, so the growth part of your portfolio can compound in continuous fashion.

Intuition would tell you 8% is two times as much as 4%. That’s the simple difference. The compound difference becomes much greater if you can let time work the wonders of compounding your money.

Warren Buffet has said on many occasions that the key to getting wealthy is to NOT interfere with compound accumulation. He has never shorted stocks or used leverage and his favorite holding period is forever. Again, you can see how time enables exponential accumulation if you maintain patience.  

Sticking to Genius

To underscore the point: the strategic selection of assets isn’t an either/or decision. It’s a question of what broad mix of assets is most appropriate for you and your long-term success. And then sticking to it. When you examine the data by each asset class from short-term to long-term the wisdom in the phrase “time in the market is a better path to success than timing the market” becomes apparent.

 Stay genius, safe, and sane out there!

Planning for a secure retirement requires effective investing and thoughtful financial planning. To discuss ways to help you achieve even stronger financial outcomes email jerry@compoundvalue.com.


PLEASE NOTE: You can’t invest directly in an index. Past performance does not guarantee future performance. All investments are subject to risk, including possible loss of the money you invest. Diversification does not guarantee profit or protect against a loss. Nothing herein or elsewhere on this site constitutes investment, legal, or tax advice. For details please see Disclosure.

Advice that Matters for business & personal financial insights