Happy New Year!
With the stock market on what seems like a never-ending roller-coaster ride, we felt it would be impactful to present our personal thoughts and insights to help put things in perspective. This is not a regurgitation of what you may have read or seen through mainstream media, but rather our professional opinions regarding the current markets in Layman’s Terms.
2018 was a volatile year for stocks to say the least, but this volatility alone should not be a cause for investors to flip their investment policy/risk tolerance on its head. We currently see that investor’s fear of market volatility has become exacerbated by the generous stock market returns over the past 9 years. Investors have grown “comfortable” and with the recent bout of market flux now question the health of the economy, and the markets. This “correcting” can actually be very healthy for the market, it drives out large day trading investors and can eliminate possible “excesses” in asset prices.
First thing’s first, we do not believe the U.S. economy is on the brink of recession. Unemployment is at an all-time low, wages are increasing, consumer confidence is incredibly high, companies are making money and innovating, and we do not currently see any “excess” building up in the economy (i.e. 08’-09’ Housing Crises). That being said you may have noticed that the stock market has not reacted the same as the overall economy, why?
A majority of the year’s market swings have been caused by media headlines and policy changes such as: tax law, multiple increases in interest rates (Fed Policy), potential trade war, etc. The headlines have caused mass uncertainty and fear among investors which often leads to the unwarranted selling of investments. When the overall economy and individual companies are doing so well why would investors sell their investments in them? Fear.
We currently believe the market is oversold. Valuations are now at average levels for most large U.S. companies and even lower for international companies. What do we mean by “valuations”? In a nutshell it refers to how “cheap” or “expensive” an investment is relative to its potential value in the future. We see that many innovative companies are currently not overly expensive and that could mean tremendous buying opportunity. Remember the golden rule of investing: “buy low, sell high”. International companies surely took a hit in 2018, once again mainly from headlines such as trade talks and tariffs. This doesn’t mean they are bad companies and/or bad investments. There are a lot of international companies that have products and business models that are not affected by things like tariffs and trade, and that we think have very long runways for potential success. We believe long term results will always revert back to each individual company’s fundamentals; not headlines, elections, policy change, waves of buying and selling, etc. What we as investors should be looking at is: Are they growing? Are they innovating? Have their revenues increased over time? Have they maintained successful management teams? Do they have room to grow? And are they compensating investors for risk?
The key is to remember why you started investing in the first place. What was the purpose or overall goal? Truly understanding your goals is crucial to keeping you on track and helps you avoid making emotional investment decisions that can hurt you in the long run.
If you are an investor with a diversified portfolio, we would like you to keep a couple things in mind:
1. If you are amid your investment journey and you are continuously investing a fixed amount of money on a weekly, monthly, or annual basis via: 401(k), IRA, 403(b) contributions, dividend reinvesting, etc. then you are employing the investment practice known as Dollar Cost Averaging. This simply means that over time you will end up paying an “average” cost for your investments rather than often “buying high”, when investments may be at their most expensive prices. When there is market volatility this strategy has the potential to be extremely beneficial in the long run. You can buy more shares when prices decrease and less when they increase.
2. If you are in the distribution or income (retirement) phase of your investment journey, you likely have a diversified portfolio that includes dividend paying stocks and bonds that pay you interest/coupon payments. These investments pay you a certain amount of income based on how many shares you own (Yield). This means that the value of your actual stocks or bonds can fluctuate with market volatility, but you will continue to receive income from the investments.
Ex: One way to think about this concept is to imagine you own a piece of residential real estate and rent it out because you would like to receive the income from it (maybe you already do). You receive rent payments each month that serve as supplemental income, and minus all of the potential headache that can come with being a landlord you are happy to receive that money on a consistent basis. The original purpose of leasing out the real estate was to receive the income. However, remember that the actual value of that residential real estate is changing on a daily basis you probably just don’t see it… If the value of the home increased or even decreased significantly in just one month would you sell it and forfeit that income? Probably not. These dividend paying stocks and interest paying bonds work in a similar fashion.
What about the housing market? When it comes to the housing market it is our opinion that 2019 will remain fairly flat or present a gradual downturn if anything. We have already experienced a slowdown when looking back to spring 2016 due to supply and demand, interest rate hikes, etc.
From a 30,000 foot view, houses are just plain harder to sell and harder to buy. Millennials (largest demographic) are wanting to buy, but face major headwinds such as high student debt and health insurance costs, making it very difficult to accumulate a reasonable down payment. Couple that with a large chunk of Baby Boomers looking to downsize from larger homes, you have a convergence of buyers (Millennials and Boomers) looking for similar sized homes. This convergence exacerbates the supply issue for the most sought after housing; meanwhile new home builders are chasing demand.
We also see that home loans provided by non-bank institutions are requiring less and less underwriting requirements than traditional bank lenders. This is due to significantly increased big bank regulation post-financial crises. Therefore these retail mortgage and online non-bank lenders are popping up everywhere to fill the void banks struggle to fill: the first-time home-buyer market. This is because these non-bank lenders have less regulation when it comes to underwriting and therefore can write more of these types of loans (e.g. FHA loans). We do not see the shift to non-bank lenders as a major concern at the moment but it is worth mentioning. After the financial crises, the government created multiple agencies whose sole purpose is to watch for any potential irregularities in the system. We will continue to monitor their analyses in the years ahead.
In summary, we expect volatility to continue into 2019 but also see tremendous opportunity. We want to remind everyone that volatility is actually quite normal when it comes to investing. The markets react each-and-every day based on millions of different investors and their emotions and opinions, which can be differentiating. We want to emphasize that developing an overall investment strategy and financial plan is the utmost important piece of pursuing financial goals, and can be a great New Year's resolution for 2019! As advisors we can guide you on when and how to make slight adjustments along the way.
Cameron Valadez is a CFP® Practitioner located in Riverside, CA.
Certified Financial Planner Board of Standards Inc. owns the certification marks CFP®, CERTIFIED FINANCIAL PLANNER™, and CFP® in the U.S., which it awards to individuals who successfully complete CFP Board's initial and ongoing certification requirements.
This material represents an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. It is meant for educational purposes only and should not be considered investment advice, nor does it constitute a recommendation to take a particular course of action. Please consult with a financial professional regarding your personal situation prior to making any financial related decisions.
Investing involves risk and the potential to lose principal. Past market performance is not a guarantee of future results.
Diversification cannot ensure a profit or protect against loss in a declining market; it is a strategy used to manage risk.
Dollar cost averaging does not ensure a profit nor guarantee against loss. Investors should consider their financial ability to continue their purchases through periods of low price levels.
International investing is not suitable for all investors. International investing is subject to increased risk and volatility due to potential political and economic instability, currency fluctuations and differences in financial reporting and accounting standards and oversight. Risks are particularly significant in emerging and developing markets.
The value of debt securities (bonds) may fall when interest rates rise. Debt securities with longer maturities tend to be more sensitive to changes in interest rates, usually making them more volatile than debt securities with shorter maturities. For all bonds there is a risk that the issuer will default. High-yield bonds generally are more susceptible to the risk of default than higher rated bonds.