April 20, 2018
The first quarter of 2018 brought back an old friend / enemy of investing – volatility. Perhaps you welcomed this frenemy with open arms because you know volatility is an essential part of increased market returns. On the other hand, maybe you found this to be an unpleasant reminder that markets don’t normally rise smoothly for long periods of time – and you might hate that! For all investors, the return of moderate volatility is a useful and necessary reminder of the importance of staying vigilant with your financial plan. To that end, you must: continue to save, remain well diversified, adjust your risk as life events dictate, rebalance your portfolio to your target, and hold cash for the near-term stuff.
Equities. As noted in our Market Review 2018 Q1, all market segments retreated in the first quarter with the biggest losses going to international markets which lost about 1.2% and the lowest drop in the U.S. mid-caps which lost about 0.1%. While it is easy to focus on this negative quarterly data, we strongly encourage clients to take the long view which shows there have been significant 3-year, 5-year, and 10-year gains.
Fixed Income. The Fed’s interest rate increases continued to put pressure on the bond markets with both short-term and intermediate-term U.S. government bonds down a bit for the quarter: 0.3% and 1.1% respectively. Again, the long view shows in the balanced portfolios that the multi-year returns remain very positive as the blend of stocks and bonds prove to be a good strategy for investors. For example, a 70% stock and 30% bond portfolio still demonstrate annualized returns of 10% for the prior year, 6.7% for the prior 3 years, and 8.3% for the prior 5 years.
Volatility. Volatility, as measured by the CBOE’s Volatility Index (VIX) surged in February to its highest level in over six years. Given how low volatility has been for so long, this spike was a necessary wake up call to investors that volatility is part of investing. In fact, in 2017, there were only eight days where prices moved by more than one percent – and we exceeded that frequency in 2018 by the end of February! What’s driving the increased volatility? Not any one thing, but several: inflation, the threat of a trade war with the rest of the world, and other geopolitical developments.
GDP. U.S. economic growth, as measured by gross domestic product (GDP), expanded for the quarter, increasing at an annual rate of 2.9%. While this is lower than the 3.2% for all of 2017, it is still within a normal band for U.S. GDP. Gross domestic product essentially measures what the economy produces, such as goods and services.
Employment. Unemployment remained very low at 4.1%, which is outside the normal range. While low unemployment is usually a good thing, this persistently low unemployment is something to keep an eye on since as unemployment falls below 5.0% it starts to signal an inefficient labor market.
Inflation. Inflation expanded to 2.3% in the first quarter of 2018. A common measure of inflation, the Consumer Price Index, measures the price level of a basket of consumer goods and services purchased by individuals.
Consumer Sentiment. The Consumer Sentiment Index continued its upward trend showing that consumers continue to have positive feelings about the economy. The University of Michigan Survey of Consumer Sentiment Index is an economic indicator which measures the degree of optimism that consumers feel about the overall state of the economy and their personal financial situation. How confident people feel about the stability of their incomes affects their economic decisions, such as spending activity, and therefore serves as one of the key indicators for the overall shape of the economy.
As we move into this renewed (but still fairly normal) period of volatility, it’s important that investors realize that this is what it means to be invested in the market, and this is why it is so important that you have and stick to a financial plan. This means that you should be:
- Ensuring you have adequate cash flow over the next 2-3 years,
- Keeping your portfolio in balance by revisiting your current asset allocation versus your target 1-2 times per year and ensuring you are within 5% of your target allocations,
- Continuing to fund your financial goals with regular savings contributions thereby affecting a dollar cost averaging strategy over your long-term savings horizon, and
- Stay mentally prepared for steep short-term losses, employing the wise counsel of your financial planner as needed.
We look forward to catching up with you soon!