Q4 2020 Insights
To say 2020 was a challenging year would be a major understatement, and to say it was unprecedented has become cliché. We were all tested last year. Some of us learned to become teachers to our children. Most of us learned to communicate with our friends and families virtually. Many of us learned to work remotely and reposition our businesses to become more flexible. We learned much about viruses and R numbers, not to mention hand sanitizer, face masks, and fogging glasses. While we learned many new lessons during those long twelve months, the most important lessons (from an investor’s point of view) are not new: diversify your risk exposure and stay the course through volatile markets.
Last March, hundreds of millions of people around the world went into quarantine, governments scrambled to develop stimulus packages, and the S&P 500 shed nearly one-third of its value in less than four weeks. Investors everywhere faced the same difficult decision: do I sell now and cut my losses, or do I hold on and allow my portfolio time to recover? We always preach the latter, but we understand how daunting the climb back up can seem in the moment. Of course, no one could know at the time that the S&P 500 would fully recover just five months later, let alone go on to end the tumultuous year with a strong gain. All any investor has in those dire moments is the discipline to not sell at a market bottom and rely on diversification to protect against a catastrophic permanent loss of capital.
Now that markets have shaken off last year’s uncertainties, many investors may be questioning how returns of certain financial assets can be so high when most of the world’s economies are still struggling with the effects of the pandemic. It is worth mentioning that markets and the economy, particularly our local economies, are not the same thing. The sectors and forces that drive GDP and employment in the U.S., for example, are very different from the sectors and forces that drive the S&P 500 (see Appendix A). While we, as individuals may still see restaurants and retail businesses struggling to remain open amid continued social distancing measures, financial markets – which do not reflect local businesses – are looking to the (hopefully not so distant) future when broad swaths of the population will be vaccinated and activity begins to return to normal. Not to mention, asset prices have been buoyed not only by a faster economic recovery abroad (especially in Asia), but also extremely accommodative fiscal and monetary policy from global governments and central banks.
The past year has also provided investors with a reminder of the crucial importance of proper asset allocation. Overexuberance for higher returns, misjudgment of risk tolerance, and miscalculation of short-term liquidity needs can be the recipe for a perfect storm when steep (yet temporary) market corrections occur. As we enter a new (and hopefully calmer) year, there is no better moment for investors to take a moment to reflect and think carefully if their portfolio’s asset allocation between stocks and bonds truly reflects their personal financial situation. Please never hesitate to contact us with questions. We are always ready to discuss markets and your portfolio with you and can help you find a more appropriate asset allocation, if necessary.