After seeing two months of heavy declines, stocks roared back in October. While many were calling for the beginning of an extended downturn in August, markets have moved back to near their all time highs.
The drastic turnaround shows how quickly the direction of the market can change. It’s important to understand that the markets are volatile and that periodically they will decline. Over time, however, stocks have rewarded that risk with higher returns compared to fixed income and cash.
Many factors could be the driver of the next decline and most likely it’s not something that’s even considered a “risk” to the market at the moment. The market prices in new information extremely quickly. The potential for the Fed to raise interest rates in December, weak growth in China and other issues are currently priced into markets based on their likelihood. It’s the events that are unknowable that can provide the largest shocks; a major earthquake hits California, a new war, or a virus wipes out a harvest of a crop. Thus in order to experience the good times like this past month and most of 2013-2014, one needs to stay invested for the declines like we saw in August and September, in 2011 around the US debt downgrade and during the financial crisis.
The best way to prepare for these events is to remain well diversified in equities and bonds across sectors, market capitalizations, countries, maturities and credit quality. In addition, remain disciplined with your target asset allocation and rebalance back to your target when a particular asset class invariably falls out of favor. This will best position the portfolio for success.
If your investment strategy is designed to meet your time horizon and long term goals and you stay true to the strategy than market downturns are just expected bumps in the road that your investments will travel on the way to investment success.
Index Performance Oct. YTD Trl 1Yr
US Stock (Russell 3000) 7.90% 2.02% 4.49%
Foreign Stock (FTSE AW ex US) 7.46% -0.86% -3.58%
Total US Bond Mkt. (BarCap Aggregate) 0.02% 1.14% 1.96%
Short US Gov. Bonds (BarCap Gov 1-5 Yr) -0.21% 1.38% 1.35%
Municipal Bonds (BarCap 1-10yr Muni) 0.38% 2.03% 2.17%
Cash (ML 3Month T-Bill) -0.01% 0.01% 0.02%
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