Steve Reynolds, BridgeTower Media Newswires
As we move toward the halfway point of 2018, the stock market has experienced more volatility than we saw for all of 2017. Stock market valuations continue to trade near all-time highs, and volatility, as measured by the CBOE Volatility Index (VIX), still trades at a relatively subdued level when viewed on an historical basis. In fixed income, we are seeing different interest rate cycles in the United States and abroad.
Let’s review some concerns in the current environment:
• Geopolitical tensions and “tariff/trade war” escalation continues to be an ongoing concern for the markets.
• Stock markets remain near all-time highs and valuations are elevated. The forward 12-month P/E ratio for the S&P 500 is 16.6x, well above the 10-year average.
• Rising interest rates and their effect on investments moving forward. The Fed has raised interest rates 7 times since the end of 2015 to a current benchmark target Fed Funds rate of 1.75-2.00%. The current consensus is for two additional rate hikes by the end of 2018.
Review of positives in the current environment:
• The labor market is solid, and the unemployment rate is currently at 3.8%. Job gains have been strong and consumer spending has accelerated.
• S&P corporate earnings continue to be strong, as estimated Q2 2018 S&P earnings are expected to increase 19%.
• Large technology companies continue to spur innovative technologies and have fundamentally changed the way we live our day to day lives. In the past 20 years the top performing index has been the Nasdaq 100, led by companies such as Apple, Facebook, Netflix, Google and Amazon.
• Market fundamentals remain supportive and tax cuts should provide a lift to growth (GDP is expected to grow by 2.8% in 2018).
With equity market valuations stretched on an historical basis and a rising interest rate environment (albeit rates are still very low on a historical basis), many investors wonder how to allocate their investments to help achieve their risk-defined goals. An important point to consider: investors who try and “time the market” by moving in and out of particular asset classes based on their ability to predict the future direction of that asset class tend to underperform those who remain invested over the long run in a diversified portfolio. Studies have shown the opportunity cost of market timing far outweighs the benefits over the long run. Stock markets that are perceived to be expensive can continue to move up and become more expensive. Market downturns can also develop and often come when least expected.
So the key point here is this: Regardless of the current market environment, it is important to define the role of asset allocation and diversification within a long-term investment portfolio rather than trying to time the market. Asset allocation is the strategy of distributing risk between asset classes such as stocks, bonds, cash and alternative assets (such as real estate, commodities and preferred securities). Building a diversified portfolio invested in different asset classes can help protect your portfolio as losses in one asset class could be offset by gains in others.
Portfolio diversification refers to the spreading of risk by placing assets in a variety of investment classes and in a broad range of investments within each class. Diversification is the most important component to helping you reach your long-range financial goals while minimizing your risk.
Diversification plays an role in long-term investment success by:
• Increasing your expected return;
• Reducing risk;
• Dampening of volatility; and
• Helping to avoid large losses (i.e., preserving your capital).
Diversifying the investments in your portfolio and periodically evaluating your asset allocation targets will give you a better opportunity to achieve more consistent returns over the long term, regardless of the current noise or short term volatility in the markets. There is a saying: “Time in the market is more important than timing the market.” If you need assistance developing a plan, speak with a trusted financial advisor who can help you in this process.
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Steve Reynolds is an assistant vice president for Karpus Investment Management, a local, independent, registered investment advisor managing assets for individuals, corporations, nonprofits and trustees. Offices are located at 183 Sully’s Trail, Pittsford, NY 14534, phone (585) 586-4680.
