stock market

  • Investing

    POLITICS AND INVESTING

    With all of the ups and downs in the stock market lately, and the multitude of different news headlines you see trying to explain it away – tariffs, potential interest rate cuts, rising or falling inflation, etc. You would be forgiven for worrying how the decisions or tweets made by those in the government will affect the stock market and your investments.

    Maybe you think that having Republicans in charge leads to stability so that businesses can plan and make investments for the future, and that’s better for the stock market than when Democrats are in power. While your neighbor is sure that the complete opposite is true because of the economic stimulus that flows from all of the liberal spending projects. I have heard both types of comments over the years, and I’m betting you have heard them or know someone who has blind faith in one party or the other as well.

    In 2010 I had a co-worker who was sure that the decisions congress and the federal reserve were making after the financial crisis were going to lead to runaway inflation, a recession, and another stock market crash, and was invested based on these outcomes.  Unluckily for them and their portfolio, but luckily for the rest of us none of those situations has come to pass and the S&P 500 has almost tripled from then till now.

    I’ve also heard people during the market drawdown at the end of 2018 say that they sold out of the stock market and wouldn’t invest again until “that bozo” was out of the white house. Right now, it is too soon to tell but the stock market did recover at the end of 2018 and has posted great performance through the first 2.5 years of this presidential term.

    While it may feel like the government has a big effect on the economy and the performance of the stock market, I’m here today to tell you that it’s hard to see much of a difference based on who is in charge. And there are many other things you should be focusing on instead.

    Democrats – Running up a deficit and that’s bad for the country and the markets… right?

    People tend to believe that since Democrats want to increase spending and expand social programs like Medicare for all that the US spends more money when they are in charge. Depending on who you talk to, experts will say that the spending is good because it can help stimulate the economy, while others will say that the increased spending is bad because it generates more debt we will have to pay back later.

    But either way, since the 1980s when Ronald Reagan was president the yearly budget deficit has tended to increase under Republican presidents and decrease under Democratic Presidents. So, maybe it’s Republicans who are spending and propping up the economy/saddling us with debt? Not exactly what you’d expect based on the stereotypes huh?

    Republicans – The party of business… or not?

    Experts also argue that the economy and the stock market both do better with a Republican president. After all, the GOP is considered the party of big business, which definitely leads to certainty and stability and a stronger economic outlook for the future. Except that’s not the case either.

    Looking at the economic data starting after WWII, America’s GDP has grown 4.4% per year when Democratic presidents were in office versus 2.5% per year for Republicans. While the stock market has performed similarly returning 9.7% annually for D’s versus 6.7% annually for R’s during roughly the same time period.

    And if certainty and stability from a business point of view is what you expect from a Republican president, you’d have a hard time making a successful argument that there is anything remotely stable about the decision making going on in the current White House. But, even with that all of that instability and the corresponding inability for America’s CEOs to make accurate plans for the future, the S&P 500 is still up over 30% from Jan 2017 to September 2019.

    What you should actually focus on, instead of which political party is in charge.

    Rather than pulling your money out of the stock market based on what happens next November, or any other gut related feeling you might have, focus on these three things that you can control.

    1. Maximize your cash flow (Income – Expenses = Savings). Spending less than you earn is step number one towards successfully saving for the future. Maybe you can predict the stock market’s moves based on the daily political moves, but if you don’t have any savings to put to work as your investments then you still won’t get very far.

    2. Build a plan. What are you saving and investing for? How much do you want to have in savings for emergencies, how much do you need each month to pay for your mortgage and student loans, how much do you need for retirement? Think about these questions and put a plan in place. It is much easier to achieve a goal when you have a realistic expectation of the money/time/effort it will take to reach it.

    3. Understand your appetite for risk. Investing in the stock market has been the best strategy to achieve those long-term goals, but the stock market has good and bad days and everyone’s temperament is different. Having an idea of how you will react to stocks losing 20, 30 or 40% before recovering will help you build a plan that you can stick with for the long haul and see to completion.

    By focusing on these aspects of your financial life, instead of the day to day movements of the stock market or the election by election movements of the government, you put your focus on things that you can control, rather than worrying about things in life that no one can predict.

    If you’d like some assistance building a financial plan or understanding your risk tolerance and the decisions you should make to achieve your financial goals contact a financial planner today. At Steady Climb Financial Planning we have openings to bring on new clients in the fall. Schedule your free initial consultation today!

  • Investing

    WHAT EXACTLY IS AN INDEX FUND

    An index fund is simply a security that seeks to track the movement of a particular index. In plain English that means it’s like a stock whose price goes up and down the same as the index it follows. An index can be pretty much anything. The Dow Jones Index is an index made up of 30 companies picked by the Dow Jones company. The S&P 500 is an index made up of the 500 largest public companies in the US. The Russell 2000 is an index of 2000 smaller public companies in the US. So, if an index is just a basket of companies what makes an index fund so special and why should you choose to invest in them versus anything else that’s out there? 

    The Stock Market Generally Trends Up

    Investing in stocks is seen as the best way for most people to invest for retirement because it offers the best possibility for the higher returns needed. Money invested in savings accounts will work hard just to beat inflation. Money invested in bonds will grow slowly, generally in the range of 3% – 5%. While the returns on the US stock market have generally been around 8% annually, depending on what date range you look at. Why has the stock market continued to climb? New ideas, new products, more productivity, more efficient ways of doing things, more people entering the workforce, more people entering the consumer pool, and on and on. Will the stock market continue to go up? I tend to think so, and of course we will continue to experience economic setbacks like in 1929, 1987, 2000 and 2008, but nothing in life is certain. I think Warren Buffett said it best in this quote from 2016:

    “For 240 years it’s been a terrible mistake to bet against America, and now is no time to start. America’s golden goose of commerce and innovation will continue to lay more and larger eggs. America’s social security promises will be honored and perhaps made more generous. And, yes, America’s kids will live far better than their parents did.”

    So, if we believe that the value of the stock market will continue to increase and investing in stocks is the best way to grow our wealth to prepare for the future, why are index funds the best way to do that? Shouldn’t we just find the next Amazon or Google and invest with them?

    Picking the hot stock

    The problem with finding the next hot stock is finding the next hot stock. There are many very smart people who spend a ton of time and money trying to find the next Apple or guess when the next recession will hit. You’ve no doubt heard of some of the most famous investors like Warren Buffett or Benjamin Graham. That’s because it is incredible hard to pick successful stocks, or “beat the market” year in and year out. The people that can do this are justifiable famous in their field.

    The Benefits of Diversification

    If you have the skill to pick the best performing stocks and only buy those, that is definitely the way to go. The problem is that the vast majority of us are just as likely to pick the next pets.com as we are to find the next Amazon. The solution is to purchase a basket of different stocks like in an index fund. By diversifying among a large number of stocks we decrease the chance that we’ll go bust and lose our entire investment. We choose to own the entire market, rather than trying to beat it.

    WITH A DIVERSIFIED PORTFOLIO WE SETTLE FOR THE OPPORTUNITY FOR DECENT RETURN, RATHER THAN RISK AN ALL OR NOTHING BET ON ONE SINGLE STOCK.

    Active Funds vs Index Funds

    Since there are smart people out there who know how to beat the market why don’t we pay them to beat the market for us? It turns out you can try to do this by buying “active” funds. These are mutual funds or ETFs made up of stocks that a manager chooses because he/she thinks they will do well and outperform the market. Just as with index funds there are many varieties to choose from as well. There are funds and managers that specialize in certain countries or certain industries or types of companies and on and on. The problem is that just as with picking a quality individual stock, it is very hard to pick a quality active fund.

     Maybe an active fund will outperform its benchmark for one year, but it’s very difficult for it to do better year after year. The S&P Dow Jones Indices releases their SPIVA® (S&P Indices Versus Active) reports each year. According to their year-end 2017 report over 80% of US Equity funds did worse than the market. Source: https://www.aei.org/publication/more-evidence-that-its-very-hard-to-beat-the-market-over-time-95-of-financial-professionals-cant-do-it/

    It is just as hard for someone to select which active funds will outperform in a certain year as it is to select which stocks will do the same. So, if we can’t really pick which of the active funds will do well, why do we choose index funds instead? The answer comes down to the one thing that we can control in the situation. Cost.

    It Turns Out You Don’t Get What You Pay For

    When comparing an index fund that seeks to track the S&P 500 (the largest 500 US companies, remember) and an active fund that seeks to select the best performing large US companies, we cannot predict which one will come out on top. We can look at the past performance of both funds and see which has done better over the past 3, 5, or 10 years. But as we discussed above, that gives us no indication of how they will do in the future.

    The one thing we can contrast between the two and be certain of is their respective costs. With the index fund there is a cost associated with bundling the basket of stocks together and selling you a slice. An active fund has additional costs for the fund manager, research and more. Because you don’t have to pay the additional “active” costs with an index fund it will typically be the cheaper option.

    The average expense ratio for an active equity fund in 2018 was 0.76% and the average for an index equity fund was 0.20%. source: https://www.napa-net.org/news-info/daily-news/mutual-fund-expense-ratios-continue-descent

    That 0.56% difference in fees between an index and active fund may not seem like a lot, but it definitely adds up over time. On a $500,000 portfolio earning 6% annually, by paying an extra 0.56% in fees you would lose out on additional $421,938 over a period of 30 years. Looking at it this way you can understand how much of an effect fund fees have on your portfolio’s performance.

    Cheaper than the Alternative and Just as Good

    All of these reasons: diversification, lower fees, the difficulty of picking winners are why index funds are the right choice for most investors. These benefits have led to a rise in popularity of index funds whereas before you could only find funds that tracked the largest stock markets, today you can find an index fund for almost anything.If you are interested in learning more about how to put together a portfolio of index funds that is right for you, I recommend talking to a fee-only financial planner. They can take the time to understand your goals and time horizon and put together a financial plan that fits your situation. And if you would like to speak to us at Steady Climb Financial Planning reach out today, we have open availability to take on new clients.

  • Investing, Saving

    MARKET CORRECTIONS ARE HEALTHY AND NECESSARY

    Looks like we’re in bear territory now!

    With the stock market’s historic growth that began after the recession in early 2009, many experts believe a 10% pullback would be a healthy sign for the markets going forward. This sort of drop is not horribly painful, especially by historical standards, and in order for the stock market to keep advancing there must be at least a risk of decline.

    Why is a market correction healthy and beneficial? After all, most people are counting on continued gains to be able to meet their goals. The main reason is that it prevents a stock bubble from forming. Bubbles occur when stock prices rise so far that they are clearly out of line with the earnings potential, and value, of the underlying companies. We saw the consequence of that in the awful 2000-02 and 2008-09 market wipeouts, when some people lost half their wealth or more.

    Certainly, market corrections never feel healthy when they occur. It seems people only think it’s a healthy correction when it is other investor’s holdings that are affected. People get fearful as the market declines, the media fan the flames by giving investors reason after reason to be afraid, and worries that this is the beginning of the next crash begin to develop.

    While many investors admit that a 5% pullback is manageably unpleasant, concerns expand when the market decline hits 10%. That’s what customarily constitutes a correction. In the most recent sell-off, at the beginning of this year from January 26th to February 8th of 2018, the S&P 500 index fell 10.2%. The market barley crept into correction territory, but then rebounded and went on to have several days of all-time highs later in the year.

    In a great post at awealthofcommonsense.com, Ben Carlson looked at the S&P data going back to 1950, and found 28 time periods when stocks fell by 10% or more. So, on average, the market has experienced an official correction every 2.25 years.

    S&P Losses of 10% or More Since 1950

    • Total Occurrences: 28 Times
    • Average Loss: -21.6%
    • Median Loss: -16.5%
    • Average Length: 7.8 Months
    • Greater Than 20% Loss: 9 Times
    • Greater Than 30% Loss: 5 Times

    As you can see, the average post-1950 market correction lasted just under eight months and the median total loss was 16.5%. But what about steeper declines?

    Out of the 28 times the S&P 500 decreased by 10%, the market went on to decline by 20% – the standard definition of a bear market – only nine times (32% of the time), and a loss greater than 30% only five times (18%). The data confirm that, although these types of large losses do occur, they really are the exception.

    Here are the past 12 corrections in the S&P 500 Index, according to Standard & Poor’s:

    Can you Stomach a Correction?

    Are you thinking: “I don’t think I can stomach a drop of 16.5%.” Then that’s where the wisdom of diversification and having a financial plan becomes apparent. Remember that the data above represents the historical performance of the S&P 500, an index composed of 100% stocks.

    Working with a capable financial advisor can help ensure you have an asset allocation mix of stocks, bonds and cash that reflects your tolerance for risk. A riskier portfolio tilted more heavily towards stocks will perform worse than a conservatively balanced one if you panic and sell when the market declines.

    Even for a younger investor, your portfolio likely shouldn’t consist of 100% stocks. The appropriate allocation for an average investor in their 30s or 40s might be closer to 80% stocks. This means that your portfolio should suffer a drop of around 13.2% during the median market downturn. If that number still makes you queasy, consider having a conversation with your advisor about the amount of volatility you are comfortable enduring within your portfolio.

    By making adjustments to your plan: boosting savings, changing goals, or altering time horizons; you should be able to construct an asset allocation that allows you to rest easier during these periods of market turbulence.

    Although the recent market pullback might create anxiety, media headlines and possibly fear, remember this: we’ve been here before.-source for market data included in this article: “When Stocks Fell 10%…” Ben Carlson. https://awealthofcommonsense.com/2018/10/when-stocks-fell-10/