Q4 2013 Market Commentary
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By The Deighan Team
Maine is a state well-known and loved for its seasons. Each year, budding brown transitions into verdant green, followed by blazing orange and whitest white. Living here, it’s nigh impossible to ignore this persistent, annual cycle, which is all at once familiar and unique. We mark our lives by the seasons. That’s why New Year’s Day is so important to the human spirit; it marks the day when the cycle begins anew. It’s a day of reflection and anticipation.
Still, it’s important to remember that what we define as one calendar year is an otherwise arbitrary slice of time. Had we evolved on Jupiter, then one year would be 4,332 Earth days long; on Mars, 687 Earth days. Back on Earth, our Gregorian calendar, though widely used and accepted, is but one method of tracking time that has been developed over the centuries. While it is reasonable and necessary that humanity picks one day and says, “This day shall mark our New Year!”, it’s less reasonable, to search for meaning where none exists. That is, we should not say, “It’s a new year; things must now be different.”
And yet, that’s exactly what investors do this time of year. They look at charts, trailing returns, historical sales, and pro-forma earnings, all the while grasping for some piece of meaning upon which they might base their short-term decisions. Investment analysts and talking heads fill the airwaves with projections, explanations, rationalizations, and reaffirmations as though somehow something is suddenly different. But New Year’s Day, particularly when it comes to investing, is really just another day in a long string of days. We should not expect too much of it.
Therefore, we advise investors to take a step back, and don’t get caught up in the New Year’s hullabaloo. For every dire prediction there’s a positive one; for every one prognostication that rings true, there will be scores that do not. The future is always uncertain. What can we say about 2014 with relative certainty? The same things we might say on any given day: first, don’t expect any one asset class to consistently outperform; second, do expect both good events and bad events to disproportionately affect markets; and third, recognize that things will happen that we cannot know or predict today.
These are the overarching themes with which any long-term investor should concern themselves, and they all point in the same direction, toward portfolio diversification. We cannot force disorderly markets to suddenly become orderly. Neither should we reach for meanings that do not exist simply because we want them to or because it’s a particular time of year. Instead, what we can and should do is construct thoughtful, well-diversified portfolios. Such portfolios might not provide certainty, but they can provide both order and probability, the probability that hard earned dollars will withstand the many and varied tests of time.
Thinking about this all for a moment, let’s consider today’s stock market. One might look at it and think, “It can’t go straight up forever!” This is true, there will always be downturns, and among them severe ones. But the tricky and darn near impossible part is getting the timing right. Will stocks continue to rise in 2014, or will they pull back? Maybe a pullback won’t happen until 2015, or maybe it won’t happen for years, although this would surprise us. This current bull market is neither the cheapest nor the most expensive on record, so what’s an investor to do?
Again, we recommend taking a step back from the day-to-day view of investing. Are stocks up today? Were they down yesterday? For long-term investors with time horizons spanning 10, 20, or even 30 years, it actually doesn’t matter. Today is but one day in a very long string of days, whether it’s Monday, New Year’s Day, or some other day. Over an investor’s lifetime, the market will move upwards, downwards, sideways, and every which way. Maybe stocks look expensive today, but they’re still likely to provide a solid return over the coming decades.
Next, we need to recognize that the more often an investor trades, the higher the demand to be right with each trade in order to wind up on the winning end. That’s because every trade is the culmination of several assumptions, projections, interpretations, and decisions. Each link in the chain is important, and it only takes one bad link to break the effectiveness of the trade. This is why studies show time and again that those who trade too often are the ones who tend to hurt themselves the most, because of the increased opportunity for error.
In sum, we could sit here with no “fat pitch” in sight and say, “Markets are overvalued, sell now!” But we could be wrong, and stocks could advance for the next several years. Or we could say, “Stocks are cheap, load up!” Again, we could be wrong and stocks could decline. Portfolio managers are risk managers, not fortunetellers. Honest investment professionals as distinguished from media personalities don’t know precisely what will happen short-term, and we don’t want to hurt ourselves or our clients by exercising unfounded hubris. For this reason, we advocate putting trust in one’s long-term asset allocation, and stick to the program riding out both the upturns and the downturns.
This might sound overly agnostic, but that’s not our intention. We do try to be agnostic with respect to short-term movements, but we also spend long hours studying charts, historical sales, pro forma earnings, and so forth. The difference is that our focus, our assumptions, and our projections are always grounded in the long term, the period of time over which we can make reasonable inferences and expect relatively certain outcomes. Certainly we look at short-term periods, like one year, to give us a point of departure for tweaking direction. But we recognize that, since in the short-term markets can move swiftly, to read too much into such movements is of limited utility to long-term investors, rarely warranting a course correction.
Ultimately, it’s not what happens on any one day that determines investor satisfaction; it’s what unfolds over the long term. If we accept that we cannot know or predict the unknowable, then we are left with the best tools we have: diversification and discipline. These tools might not always sound exciting, and they don’t always work over every arbitrary period of time. You won’t spend every New Year’s Day loving your asset allocation. However, over your full investing time horizon, which is very much a discrete (non-arbitrary) period of time, diversification and discipline have a high probability of yielding the best result. This is why our mission is to develop portfolios tailored to help our clients sustainably maintain their lifestyles year over year whether it’s a year like 2008 or 2013. That said, in the spirit of seasonal celebration, we wish you health, wealth and the time to enjoy them! Happy 2014!