After stocks posted the worst December decline since 1931, they promptly rebounded in January and posted the best January return since 1987. And the returns were broad based, with smaller company stocks, foreign stocks, and even commodities participating. All eleven sectors within the S&P 500 index were up in January, which is unusual. High yield bonds also had a nice bounce, as they tend to move with the equity market. Even conventional bonds, that are more sensitive to changing interest rates, had a positive start to the year. All in all, a pretty strong month for most asset classes.
However, if you look at the chart below, you will see that what looked like a nice rally in January was really just stocks recovering (most of) the drop in December. The orange line is the S&P 500 index for December and January (the horizontal line marks the level of the S&P 500 index on November 30). Investors who were fully invested in stocks at the end of last year lost 9% of their money in December and then recouped 8% of it in January.
The FSA approach is to move assets away from sharply falling areas of the market to avoid the emotional and financial pain of those losses. Because of this, FSA accounts avoided most of the extreme drop in December and subsequently did not participate much in the January rebound. Nevertheless, over that two-month interval, FSA accounts were in line with (if not better than) the broad stock market—without the rollercoaster experience.
Of course, as the year moves forward, the obvious question becomes, “When do we start moving back into stocks?” From our vantage point, we believe it is already time to do so. In fact, since mid-January we have been gradually shifting the portfolios back into stocks and high yield bonds. The table below shows how each of the six strategies is invested as of February 1:
After sharp sell-offs like the one we witnessed last quarter, which took stocks down nearly 15%, it is common to see stocks bounce off the bottom and then retest those low points some weeks or months later. As a result, we do not have the portfolios fully invested at this time; nevertheless, the higher that stocks move, the lower the odds are that stocks will retest their lows. Like all things in investing, it is a matter of weighing the probabilities of one outcome versus another. As long as stocks remain below their long-term trend lines and solidly within the year-long trading range, it is prudent to proceed with caution until stocks can re-establish an uptrend. While we are encouraged by the progress so far, this is not the time to throw caution to the wind.
Please let us know if you have any friends or family members who might be interested in our risk-managed approach to investing their retirement nest eggs. We would welcome the opportunity to work with them.
Ronald Rough, CFA
Director of Portfolio Management