I’m writing this on 2/24/2022. Last night, 2/23/2022, Russia invaded Ukraine. I feel horrible for the people of Ukraine. I have watched videos on YouTube from a Ukrainian woman who is fluent in Spanish. She walks around different cities and areas of Ukraine and talks about the beauty and the history of her country. Then this morning I wake up and see photos in the Washington Post of missile bodies in apartments and an older man with his head bloodied after being injured in the attacks.
The citizens of Kiev woke up this morning to the sounds of air raid sirens and were gathering up their kids and taking shelter in the subway. Compared to them most of the problems we face in the United States and as investors seem trivial and minor. With that being said however, I am a financial advisor and have clients who get concerned and wonder how events which are totally out of their control are going to affect their financial future so I thought I would share a few charts and a few thoughts.
Declines Happen All the Time
This chart shows intra-year declines versus calendar year returns. Every single year since 1980 there have been times when the S & P 500 was negative during the year. They range from -3% to -49% in 2008. Despite these drops the stock market has been positive in 32 of the past 42 years.
The people at Capital Group have a chart that shows what would have happened if someone invested $10,000 in 1934 into one of their mutual funds, Investment Company of America, and just let it ride. At the end of 2021, that hypothetical investor would have had, $197,012,817.00. That’s an average return of 12%. Just think of all of the things that have happened since 1934. World II, Korean War, Vietnam, Watergate, Oil Embargo, Gulf War, 9/11, etc. etc.
The point is the stock market can fluctuate wildly from day to day and year to year, but over the long term, the returns are worth the volatility.
Asset Class Returns
This chart shows the returns of various asset classes. The last two columns show the annualized return (Ann.) and the volatility (Vol.). Large Cap stocks (big companies) had the highest average annual return from 2007-2021 and the 6th highest amount of volatility or fluctuation. Commodities like oil, farm products and natural gas had the worst average annual return during this same period and had the 4th highest level of volatility. In 2021 however, commodities had the highest rate of return.
The white boxes with the lines connecting them show a diversified portfolio. It has never been the best performer, nor has it ever been the worst. On an annual basis the diversified portfolio had the 5th best returns with the 3rd lowest amount of volatility.
This reminds me of a story. As many of you know, I ride bicycles. One time maybe 20 years ago or so, I went out to do a time trial. A time trial is where you ride by yourself for a certain distance against the clock. Having never done a time trial before, I asked a guy who I knew how hard I should try to go. He told me, keep it just below puke. I use this same concept to help my clients figure out how much volatility they can handle.
I often ask people how much their portfolio would have to go down before they bailed out. For instance, if you had $500,000, how much could you stand it going down? $50,000? $100,000? $250,000?? I never ask in percentages, 10%, 20% or 50% in this example. I want to talk in real numbers. With that information, I can help my clients choose a portfolio that not only helps them to reach their financial goals, but it also helps them to stay the course when times get tough.
Time Smoothes the Ride
Let me explain this chart. From 1950 – 2021, an all-stock portfolio averaged 11.5% rate of return. During a one-year period, returns for that portfolio fell between -39% and +47%. Over a 10-year rolling period the returns fell between -1% and +19% and over a 20-year rolling period they were between +6% and +17%.
Then the chart does the same thing for a 100% bond portfolio and a 50/50 stock to bond portfolio. Bonds generally have less volatility on a year-to-year basis and over time their average return is lower than an all-stock portfolio. But you need to figure out what you need to reach your goals and how much volatility you can handle.
What Should You Do?
You have absolutely no control over events that affect the economy and thus your investments like wars and recessions. The one thing you can control is your behavior. One great way to do this is to know what you want. Another thing is to know how you behave. If you get too nervous when your portfolio goes down, then you need to invest in something that doesn’t have as much volatility. When we do financial plans for our clients, we try to be conservative in our projections and expectations of returns. If someone is very conservative, they might have to save more money or work a little longer in order to meet their objectives.
On the other hand, why take on more risk than you need to meet your goals? I realize more money is better than less money but if you take on more risk than you can handle, then sell at the wrong time, you probably won’t meet your goals anyway.
Bad stuff happens all the time. Have a financial plan. Know yourself and how you behave. You can do this on your own, but a lot of people like to have an experienced partner to guide them on their journey. If you want to talk to me about this, click HERE and schedule a time to talk. As always, thanks for reading! KB