Please note: This update was prepared on Friday, September 11, 2020, before the market’s close.
Have investors lost their appetite for riskThe probability that an investment will decline in value in the short term, along with the magnitude of that decline. Stocks are often considered riskier than bonds because they have a higher probability of losing money, and they tend to lose more than bonds when they do decline.? VolatilityA measure of how large the changes in an asset’s price are. The more volatile an asset, the more likely that its price will experience sharp rises and steep drops over time. The more volatile an asset is, the riskier it is to invest in. returned to the investment markets as high-flying tech stocksA financial instrument giving the holder a proportion of the ownership and earnings of a company. continued on the roller coaster ride that started last week. Billions of dollars in market value were siphoned from their shares as traders turned their attentions to less-loved sectors.
Many signs point to additional volatilityA measure of how large the changes in an asset’s price are. The more volatile an asset, the more likely that its price will experience sharp rises and steep drops over time. The more volatile an asset is, the riskier it is to invest in. ahead: The job market’s rebound has slowed and new claims for unemployment benefits remain at historically high levels, a contentious U.S. election looms and COVID-19 continues to take its toll on the health and well-being of individuals, small businesses and the economy. Ramped-up tensions between Washington and Beijing, as well as the Senate’s failure to pass even a meager “skinny” stimulus bill on Thursday, did little to allay unease among investors.
We continue to believe that disciplined diversificationA strategy for managing investment risk by investing in a mixture of different investments. Since different asset classes face different risks, even if one type of asset declines in value, others may not. and adhering to our strategies can help us take advantage of market disruptions and the trends that emerge from them.
Through Thursday, the Dow Jones Industrial Average has dipped 1.8% for the year, while the broader S&P 500 index has returned 4.7%. The MSCI EAFE index, a measure of developed international stockA financial instrument giving the holder a proportion of the ownership and earnings of a company. markets, is down 5.2%. The Bloomberg Barclays U.S. Aggregate BondA financial instrument representing an IOU from the borrower to the lender. Bond issuers promise to pay bond holders a given amount of interest for a pre-determined amount of time until the loan is repaid in full (otherwise known as the maturity date). Bonds can have a fixed or floating interest rate. Fixed-rate bonds pay out a pre-determined amount of interest each year, while floating-rate bonds can pay higher or lower interest each year depending on prevailing market interest rates. index’s yieldYield is a measure of the income on an investment in relation to the price. There are several ways to measure yield. The current yield of a security is the income over the past year (either dividends or coupon payments) divided by the current price. stood at 1.15%, a decline from 2.31% at year-end. On a total return basis, the U.S. bondA financial instrument representing an IOU from the borrower to the lender. Bond issuers promise to pay bond holders a given amount of interest for a pre-determined amount of time until the loan is repaid in full (otherwise known as the maturity date). Bonds can have a fixed or floating interest rate. Fixed-rate bonds pay out a pre-determined amount of interest each year, while floating-rate bonds can pay higher or lower interest each year depending on prevailing market interest rates. market has gained 6.9% for the year.
Script Flips on Tech
Technology stocks sank in a three-day slide that began last Thursday, pulling the NASDAQ Composite index down more than 10% from its all-time high in what was its fastest-ever fall into “correction” territory.
The good news? Overlooked, underappreciated and thus relatively undervalued stock sectors—think financials and industrials—held up relatively well during the tech slide, as did defensive investments like bondsA financial instrument representing an IOU from the borrower to the lender. Bond issuers promise to pay bond holders a given amount of interest for a pre-determined amount of time until the loan is repaid in full (otherwise known as the maturity date). Bonds can have a fixed or floating interest rate. Fixed-rate bonds pay out a pre-determined amount of interest each year, while floating-rate bonds can pay higher or lower interest each year depending on prevailing market interest rates. and cash.
During the market’s extraordinary tech-driven recovery from March’s pandemic low, we’ve noted more than once that investors tend to look ahead. StockA financial instrument giving the holder a proportion of the ownership and earnings of a company. prices were most likely rising on hopes that the economy had bottomed out and better times lay in the near future. It could be that this week’s volatility shows that investors are feeling less sanguine about the months to come. The alternative explanation is that we are simply seeing some appropriate profit-taking in the stocks that fueled the broader market indexes’ surge.
After all, Apple, Facebook and Amazon were each up 85% or more between March 23 and September 2. With other mega-techs like Alphabet (Google) and Microsoft, this “big five” made up 26% of the S&P 500 at the end of August, so their shares’ leaps drove the overall index’s returns.
The trends that propelled these astonishing price gains—including more people working, shopping and learning from home—aren’t going away. But over the last week, we’ve been provided an object lesson in the old Wall Street adage: Trees don’t grow to the sky. The stock market’s recent contortions should serve as a cautionary tale to investors who believe that big tech stocks are a one-way ticket to guaranteed wealth with little risk.
Putting Economic Data in Perspective
In the past few months, we’ve consistently kept the economic contraction in perspective, in part by making sure you understand the headlines that we’re constantly barraged with. For instance, remember that a 30% annualized decline in second-quarter gross domestic product (GDP) didn’t mean the U.S. economy shrank by 30% in three months; it actually fell 9.1%—still bad, but not nearly as terrible as the annualized number. While it’s useful to understand the reality behind the negative news, it’s just as important to temper the fanfare when a bounce-back appears too good to be true.
We’re revisiting this topic because the media pundits continue to get it wrong.
For instance: We heard a commentator crowing about the Federal Reserve Bank of Atlanta’s “prediction” that economic growth in the third quarter would rise 30% year-over-year. That’s flat-out false. The Atlanta Fed doesn’t expect the economy to be 30% larger at the end of September compared to a year ago. Far from it. The Atlanta Fed’s prediction, bullish as it is, will still see the economy 3% smaller than it was 12 months ago.
Given how quickly the economy contracted in the second quarter, it’s only natural to see a significant initial rebound. But even a 7% quarterly growth rate isn’t sustainable. While we would welcome an economic recovery, we reiterate this point so that you’re not alarmed when you see or hear reports that the pace of growth has slowed in quarters to come.
Podcast: Budgeting Made Simple—Three Ways to Boost Savings and Manage Spending
Think budgeting can’t be engaging and inspiring? Think again! The key is to keep it simple and find an approach that you can commit to.
The best budgets are streamlined and in sync with your financial planning goals. Listen to financial planners Andrew Busa and Diana Linn as they present three smart ways to boost savings and manage your spending.
Tune in to hear clear, actionable advice to help you build a budget that you can live with over the long term, including:
- The nuances of budgeting in different phases of your life
- Three distinct budgeting models to get you started
- Tips to avoid overspending and limit credit card debt
- Ideas to help you achieve financial accountability while retaining flexibility
- …and much more!
A sound, realistic budget is your first step toward financial peace of mind—it’s a valuable tool, not a burden. These simple tips make it easy. Please click here to listen to the podcast today!
Financial Planning Focus:
Understanding Defined Benefit Plans
There are two main types of employer sponsored retirement plans: Defined contribution plans and defined benefit plans. What sets the two apart are who is contributing to the plan and where the investment responsibility lies.
With defined contributions—the most common of which is the 401(k)—employees determine the amount they wish to contribute and direct how those assets are invested.
With defined benefit plans—commonly called pension plans—the benefit is paid by the employer based on factors such as compensation, age and tenure at the company. The company invests that money with the goal of paying the employee a “defined benefit” throughout retirement.
Over the past 40 years, defined contribution plans have come to dominate the landscape. (For more on 401(k) plansA 401(k) plan is a retirement account that a company sets up on behalf of its employees. Both the participant and the employer can contribute to the account. There are two types of 401(k)s, traditional and Roth. Income invested in traditional 401(k)s isn’t taxed while it’s invested, but is taxed when it’s withdrawn. Income invested in a Roth 401(k) is taxed before it’s invested, but no tax is paid when it is withdrawn., click here). But as defined benefit plans have not entirely gone the way of the dodo and present a different set of considerations, they deserve our attention.
Here’s a concise overview of what to know about this type of retirement benefit:
- The RiskThe probability that an investment will decline in value in the short term, along with the magnitude of that decline. Stocks are often considered riskier than bonds because they have a higher probability of losing money, and they tend to lose more than bonds when they do decline..In a defined benefit plan, an employer invests to grow assets to accumulate a retirement benefit for each employee. The big risk is that they are unable to pay out as much as they promised—either due to a lack of funding, poor investment results or the company goes out of business. This is why we commonly recommend that investors consider making contributions to another retirement savings account, like an IRA (individual retirement account)A type of account in which funds can be saved and invested without being subject to tax until the account holder reaches retirement age., and not pin all their retirement income hopes on a pension plan or Social Security.
- The Payout.The benefit is usually paid to the employee at a predetermined age as an annuity with two payout options decided upon by the employee. The single-life option guarantees a payment to the employee as long as they live. Whereas, the joint-survivor option continues to pay out to a spouse for their lifetime should the original pensioner pass away. The joint-survivor option typically pays a lower annual amount for the additional benefit.
- The RolloverThe process of transferring funds from one retirement account to another, typically without incurring a tax. Potential. In some cases, employees can opt to take a lump sum from their pension and roll it into an IRAA type of account in which funds can be saved and invested without being subject to tax until the account holder reaches retirement age. upon retirement; this is often presented as a choice alongside annuityA financial instrument that pays the holder a guaranteed stream of payments. The annuity is funded by either a lump sum (one-time) or a series of deposits. Once funded, the sum is invested by the insurance company who sold the annuity (the accumulations phase). After a certain trigger (for example, the holder’s retirement or reaching a certain age) payments begin to be issued to the holder (annuitization phase). Annuity payments may be fixed or variable in both amount and in length (some pay out for a designated span of years, others until the holder’s death). options. A rolloverThe process of transferring funds from one retirement account to another, typically without incurring a tax. may make sense if you want more control over how you access the money or if you want to try to grow the assets more aggressively over time. (We can help you make the appropriate decision based on your circumstances and needs.)
In concert with a defined contribution plan or an IRA, defined benefit plans can be an effective way to help you save for retirement.
Adviser Investments’ Market Takeaways
Calm and clarity have been sorely lacking when it comes to market news recently—that’s why we’ve begun providing Today’s Market Takeaways, short videos in which a member of our investment team analyzes what the market’s telling us.
This week, EquityThe amount of money that would be returned to shareholders if a company’s assets were sold off and all its debt repaid. Research Analyst Kate Austin spoke about the opportunities for long-term investors presented during sell-offs like we saw last week and Vice President Steve Johnson discussed the value of a comprehensive financial plan as market volatility returns.
Next week brings key reads on manufacturing, retail sales, homebuilding, housing starts and consumer sentiment. We’ll also hear from Federal Reserve Chair Jerome Powell Wednesday in a press conference at the conclusion of the Fed’s two-day meeting.
As always, you can visit www.adviserinvestments.com for our timely and ongoing investment commentary. In the meantime, all of us at Adviser Investments wish you a safe, sound and prosperous investment future.