It ‘tis the season…no, not that one, the other one. Therefore, let’s talk about a little history but do so from the financial side vs. the religious one.
We’ve said over and over to you that markets go up and down. That motion is volatility. It is NOT risk, as conventionally defined. If a particular investment that an investor was holding goes to zero and all your money was in it, that’s a true definition of risk. Of course, if the investment went up 300%, that’s also risk being manifested, but we generally attribute that outcome to our prescience rather than to luck. Markets moving up and down naturally, and the attached slide amply shows that variation with the depiction of the average inter-year decline of the S&P 500 being 14.2%. Again, things go up, things go down. Painful to be sure, but that’s why you get an annual real return in stocks / equities over the past 10 years (5.32%[i]) that is two times larger than the average real return of bonds (which is 2.6%[ii], taking 2.28%[iii] annual inflation out of both).
Notwithstanding the above reality, there is still the infamous technical definition and angst raising emotion of a Bear Market being a decline of 20% or more. Juxtaposing investments declining 20% vs. 14.2% doesn’t seem so bad when we talk about it here, but currently that drop would mean the Dow would decline 3.550 points — if it were at 17,750 when we started (today’s rough number as I write). Please don’t tell us that would not be scary to you as we’re assuring you that you’d either be lying, or dead. That circumstance is why investing is NOT easy, and for sure the vast majority of people get it wrong. But, as they said in Egypt many years ago, this too shall pass over.
We’re not there today, nor is this writing a prediction in any way that we will be shortly. But, it will happen. When it does, we’ll act correctly, and maybe even buy some stocks when everyone else is getting scared out of them. However, I want to, at this place and time, tell you one other thing that I know that I will then ask you to consider; try spending a little less money that year (nominally, 20% less). I can absolutely assure you that this conversation will not so hard as clients are generally nervous and kind of subconsciously revert to the bunker mentality anyway, so my job not uncommonly is to get them to spend ‘something’. However, though your portfolio is extraordinarily diversified and we perform stress tests on them when we assemble your financial plan to make sure they are solid, research studies[iv] have shown that a little ‘smoothing’ of spending makes portfolios even more robust to never running out of money. Sooner or later, that is the definition of success; doing the spending we want to do without our investments checking out before we do.
On a weekend when the dead are seen to rise, and our Jewish brethren (or other faiths) remember that there is always a Plan B when things look tough, keep in mind the similar analogy in the financial world; We sometimes have to go through pain in order to realize gain. It’s just nice to know that the gain is well worth it and, by acting smartly when the pain occurs, we can actually come out in better shape when all the dust settles.
Keep the faith.
[i] “Annual Returns on Stock, T-Bonds, and T-Bills: 1928-Current (New York University, Stern School of Business website using the Federal Reserve of St. Louis database)
[ii] ibid
[iii] Consumer Price Index (CPI) Average 2005-2014 (Federal Reserve of Minneapolis)
[iv] “Spending Rates, Asset Allocation, and Probability of Failure” (Jim Davis, White Paper –DFA, June 1, 2010)
