I am happy to present this week’s market commentary from FormulaFolio Investments. The goal is to give our clients and friends a simple way to see everything they need to know about the financial markets on a weekly basis, in 5 minutes or less. After all, finances should be simple, not complicated.
The new year continues to be an unhappy new year for many investors…
The historically bad first week of financial markets has turned into a historically bad first two weeks. Per the table below, many stock indices are close to or have breached double-digit losses already. Will this continue forever? Not likely. But it is still frustrating for many and starting to cause some panic.
The good news is that there are some asset classes (bonds mostly) that are positive YTD, which means balanced to conservative investors are largely doing just fine. They might have small declines thus far, but nothing close to double digits.
This is just one of many examples why it pays to use a risk appropriate investment mix, and to never put all your investment eggs in one basket.
Lesson to be learned: One week up, one week down (sometimes a few weeks down), one week flat. Markets can do this in the short term, which is why we have to invest for the long term.
FormulaFolios has two simple indicators we share that help you see how the economy is doing (we call this the Recession Probability Index, or RPI), as well as if the US Stock Market is strong (bull) or weak (bear). In future posts I’ll write more about how these indicators are built and why we feel they are important.
In a nutshell, we want the RPI to be low on the scale of 1 to 100. For the US Equity Bull / Bear indicator we want it to be at least 67% bullish. When those two things occur, our research shows market performance is strongest and least volatile.
The Recession Probability Index (RPI) improved slightly in November, signaling an improvement in the US Economy. The Bull/Bear indicator had no change this week. Historically, this means our models think there is a slightly higher likelihood of stock market declines in the near term future (think <18 months).
Last week I published a post about this year’s market mayhem and how we were handling it here at FormulaFolios. If you didn’t get a chance to read that, I’d suggest following this link to check it out today.
Despite a very bumpy start to 2016 for many investors, those using diversified, risk appropriate portfolios are not feeling the extreme anxiety of investors who dumped their bonds and loaded up on just stocks. That was a popular (and now painful) investor approach the past couple years as investors (and professionals too) chased only the best performing investments of the past.
It should go without saying, but buying investments that made money last year does not provide you with last year’s returns. Rather, it often means you are buying high, the opposite of buying low and selling high. It’s an easy thing to get caught doing as it always feels good to have a basket of investments that look good in the rear view mirror. Unfortunately, there’s not much science to it, and it doesn’t tend to produce great results.
It’s important to start with a financial plan before making investments. The plan should help define a risk appropriate portfolio that will help meet your long term financial goals. Then comes the hard part…you have to stick with that risk appropriate portfolio for the long term, even when the markets are frightening in the short term. It’s an exercise in patience, and not one all investors succeed in.
The rewards, however, are worth it. Short term volatility is the price of admission to long term financial success. Nothing worth achieving (generally) comes easy.
Looking forward, we continue to advocate investors remaining balanced to cautious, and no matter how hard it might be, remaining patient. The markets look more bearish than bullish, and until that trend reverses, we’re wise to be patiently cautious.
More to come soon. Stay tuned.
Phil Calandra and Jason Wenk
Chief Investment Strategists