Nearly six months after the large waterfall drop of equity prices in March, most broad indexes have found their way to a better place. For the third quarter, the Dow Jones Industrial Average (DJIA) advanced over 7% and the S&P 500 index (S&P 500) rose over 8%. Although the quarter was strong, the month of September brought these two major indexes their first negative returns since March. For September, the DJIA moved over 2% lower, while the S&P 500 was down almost 4%. Many media outlets reported that the late September decline was because developments on Capitol Hill overshadowed the positive data on housing and jobs that had been a focus for much of the quarter. (Source: MarketWatch 9/30/2020)
Positive signs for the quarter included the fact that home-contract signings were at a record high in August, according to the National Association of Realtors. Also, Automatic Data Processing said 749,000 private-sector jobs had been created in September, ahead of estimates for a gain of 650,000, and the strongest reading in three months. (Source: MarketWatch 9/30/2020)
Not all the statistics released this quarter were healthy. For example, the Commerce Department revealed on September 29th that personal income—a measure of what Americans received from salaries, investments, and government assistance programs—fell 2.7% in August from a month earlier. The data showed that this decline was due entirely to a drop in unemployment benefits. While the quarter included many inconsistent data points, the overriding theme for many investors is that there is still a high degree for concern as we await more positive data on potential coronavirus treatments. (Source: Wall Street Journal 10/1/2020)
The Federal Reserve has pledged to keep interest rates low for years and so the days of relying on strong returns from money market accounts and certificates of deposit may be in the rear-view mirror. While many investors this quarter enjoyed an increase in equity prices, some analysts caution that based on historical numbers, like price earnings, the case can be made that equities are highly overvalued and overpriced. Others debate that with ultra-low interest rates and high levels of liquidity, equities are still attractive.
This quarterly update’s goal is to focus on a few of the central themes for investors. With markets entering Fall, a time period that has historically been associated with heavy volatility, investors should consider focusing on their personal objectives and timeframes.
Interest Rates to Remain Low for Years
At the Federal Reserve’s September session, Chairman Jerome Powell said that interest rates are likely to stay low for years as the economy continues to fight its way back from the coronavirus pandemic. Powell said, “We think that the economy’s going to need low interest rates, which support economic activity, for an extended period of time.” He shared that the movement of this recovery, “will be measured in years.” Powell acknowledged that the pace of jobs growth is rising faster than many people expected, but still held to his statement that it may take years before the economy has fully recovered. “However long it takes, we’re going to be there. We’re not going to prematurely withdraw the support that we think the economy needs,” he added.
(Source: Bloomberg 9/17/2020)
Federal Reserve officials holding interest rates near zero and signaling that they would stay there for at least three years effectively means that the Fed will keep their key rate at or near 0% till 2023. With interest rates at record lows, income-seeking investors looking for decent yields could be disappointed. The low interest rate environment has been described as a bonus for borrowers and a nightmare for income-oriented investors. Interest rates will continue to stay near the top of our watchlist, but for now, the consensus appears to be that rates are going to be low for a long time.
Economic and Political Concerns
The U.S. economy is the largest in the world and nearly 70% of it is driven by consumer spending. Analysts feel that until employment and wages increase, the U.S. economy will remain at best bogged down and at worst digging a deeper hole. The U.S. Commerce Department reported on September 29th that the U.S. economy shrank by 31.4% in the second quarter. The decline was more than three times as bad as the previous worst quarter in history, a 10% drop in the first quarter of 1958. The record second-quarter contraction follows a 5% drop in the first quarter. (Source: USA Today 8/8/2020)
Many economists are already shifting their attention to the third quarter final results where they are anticipating 30% Gross Domestic Product (GDP) growth, which would nearly double the previous record of 16.7% growth in the first quarter of 1950. (Source: USA Today 8/8/2020)
Unlike during the Great Depression, the economic damage today is mostly the result of strict nationwide lockdowns. In response, the Federal Reserve has stepped in aggressively to counter the damage effectively leaving interest rates at zero and injecting vast amounts of cash into the banking system, while the stock market has remained relatively strong amid the pandemic.
Markets do not like uncertainty and today’s political environment is certainly uncertain! The Presidential election and important Congressional races remain as one of the more talked about subjects in the world today. Our goal is to focus on facts and be watchful of how the political landscape could affect your investments. Clearly, the economic and political results of the fourth quarter could affect an investors outlook, therefore, these are two more topics for us to monitor.
Strategies for Investors During Market Volatility
While the reality of key economic indicators has been more negative than positive, the level of federal stimulus has already surpassed what was done during the last decades financial crisis. September included a downward market challenge that concerned many bullish investors, but by quarter’s end the “new” bull market remained intact. Uncertainties around a contentious political environment and the fact that October is historically the stock market’s most volatile month require long-term investors to prepare for the potential of increased market volatility.
Market downturns can be confusing and painful for investors. Many times, when investors suffer a sharp decline, it could feel like it is never going to end. Making emotional decisions during turbulent times can prove to be costly and problematic. A better strategy is usually to prepare and understand your time frames and risk tolerance.
One strategy for volatile times is to always understand your personal situation. You should consider planning your equity investments to maintain a long-term horizon. It could be best if you make your investment decisions on a non-emotional basis. If the daily swings in the stock market seem too chaotic, remember these movements are near impossible to fully predict. For many investors there is no reason to even subject yourself to daily market headlines. If you have long-term investment outlook of at least five years, then any short-term volatility could pass before your time horizon.
Corrections are a part of the investing experience, so try to keep things in perspective. Market pullbacks (defined typically as between 5 and 10%), corrections (defined as 10 to 20%) and even bear markets (defined as 20% or more) are a normal part of the stock market cycle. Since 1950, the S&P 500 has undergone 37 separate stock market corrections of at least 10%, not including rounding (i.e., declines of 9.5% to 9.9%). Considering that there have been over 69 years since the beginning of 1950, this works out to a correction, on average, every 1.87 years. (Source: The Motley Fool 5/2020)
Please remember that volatility and risk are not the same thing. When a stock is volatile, it means that it tends to make big moves (up or down). When a stock is risky, it typically means that it can lose money (go down). In financial terms, risk is the potential permanent loss of money whereas volatility is how rapidly an investment tends to change in price. Equity investments as a category are much more volatile than a bank deposit, but that does not mean that an investor should avoid investments in equities. Just because an investment is more “volatile” does not necessarily mean it is “riskier” in the long term. Investors should always discuss with their financial professional the potential of short-term volatility affecting the daily value of their investments and plan their investments accordingly.
Investors should always put their primary focus on their own personal goals and objectives. It is very important that you understand your situation and your financial plan. A wise strategy is to continue to proceed with caution while allocating your investments to match your risk tolerance
Predicting short term changes in the equity markets is near impossible. Equities are primarily for long term investors. With interest rates near zero, investors who need returns should consider equities. With 5- and 10-year Treasury Notes yielding less than 1%, equities become even more noticeable on an investor’s choice list.
Jeremy Siegel, the Wharton professor, who is credited for predicting that the Dow would cross 20,000 in 2015, explained to CNBC in an interview on September 28th why he believes that the stock market, “is looking forward to a really good” run next year, regardless of who takes the White House. Siegel explained that the, “tremendous burst of liquidity” from the Federal Reserve and Congress will continue to provide a huge tailwind for stocks. Siegel also added, “I think that uncertainty is going to continue to weigh onto the markets.”
(Source: Barron’s 9/30/2020)
Equity investors need to have realistic time horizons and return expectations. Markets could go down before up, or up then down. Equity investors need patience. It is always best to identify your goals and plan based on your situation and time frames. Remember, we always like to say that panic is not a plan! If you have carefully created a strategy with realistic financial goals, then try to not allow emotions or media magnification influence you to shift your approach.
This is a good time to listen to the words of legendary investor money manager Peter Lynch. He said, “People who succeed in the stock market also accept periodic losses, setbacks, and unexpected occurrences. Calamitous drops do not scare them out of the game.”
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Note: The views stated in this letter are not necessarily the opinion of LPL Financial, and should not be construed, directly or indirectly, as an offer to buy or sell any securities mentioned herein. Investors should be aware that there are risks inherent in all investments, such as fluctuations in investment principal. With any investment vehicle, past performance is not a guarantee of future results. Material discussed herewith is meant for general illustration and/or informational purposes only, please note that individual situations can vary. Therefore, the information should be relied upon when coordinated with individual professional advice. This material contains forward looking statements and projections. There are no guarantees that these results will be achieved.
FAll indices referenced are unmanaged and cannot be invested into directly. Unmanaged index returns do not reflect fees, expenses, or sales charges. Index performance is not indicative of the performance of any investment. The S&P 500 is an unmanaged index of 500 widely held stocks that is general considered representative of the U.S. Stock market. Dow Jones Industrial Average (DJIA), commonly known as “The Dow” is an index representing 30 stock of companies maintained and reviewed by the editors of the Wall Street Journal. Due to volatility within the markets mentioned, opinions are subject to change without notice. Information is based on sources believed to be reliable; however, their accuracy or completeness cannot be guaranteed.
Sources: All sources used were considered to be reliable. They include: CNBC.com, marketwatch.com, Bloomberg.com, Wall Street Journal, USA Today. Barron’s, BigCharts.com. Contents provided by the Academy of Preferred Financial Advisors, 2020