By John Grace
After returning from my terrific honeymoon in Pismo Beach I had the good fortune to meet a traffic safety engineer. Since we enjoy working with engineers of all types, I knew I would soon learn something I didn’t know.
As we discussed the beauty of the drive I was asked if I noticed that there were guardrails at some corners along the Pacific Coast Highway and no guardrails at other locations. I did notice the gaps and I was shocked to learn that it is a policy for the California Department of Transportation to install barriers after people drive off Highway 1, too often to their demise.
We do not want you to leave your hard-earned assets in places where disaster might strike, causing life savings to crash and burn. Let us be proactive.
When it comes to investing, particularly at a time when income is needed or required, too many people leave their money on the Titanic. While the popular no-load, index funds are professionally managed, this may mean your money is moved from one deck chair or combination of bonds and stocks on the Titanic to another bond or stock deck chair.
Such accounts are routinely passive in style. Passive investing is a long-term strategy for building wealth by buying securities that mirror stock market indexes and holding them long-term. It can lower risk because you’re investing in a mix of asset classes and industries, not an individual stock.
In 2022 the traditional 60/40 portfolio suffered one of its worst years in history, as both stocks and bonds suffered significant losses, according to Forbes. In fact, portfolios with the traditional equity-bond composition lost 17%, per BlackRock, “their worst performance since at least 1999 that undermined a formula at the cornerstone of asset allocation for more than 30 years.”
What’s more, the average 401k plan tumbled by 23% in 2022, according to Fidelity Investments. At the same time, the S&P 500 lost 19.4% in 2022, “leaving the stock market with its biggest annual loss since 2008, when it lost 38.4%,” opined Morningstar.
Here’s my two-step process to keep you from being kicked in the assets.
Step 1: Discover how much loss is acceptable to you and see how you can apply active management strategies. Instead of your account staying in risk assets during a market decline, you may limit your losses when your portfolio managers move your money systematically off the sinking ship out of risk-asset shares, to safety, like cash or money market accounts. Starting in March 2009, for example, it was safe to get back in the water of risk, so funds were moved from the safety of cash back into risk assets like bonds and stocks. For the reasons below, we’re not ready to dive back in yet in 2023.
Step 2: What’s the alternative? Alternative investments rely less on broad market trends and more on the strength of each specific investment; thereby adding alternatives that can potentially reduce the overall risk of a portfolio. Alternatives can offer a lower correlation to the market than traditional asset classes.
Some examples include natural resources, infrastructure, real estate, hedge funds, private debt and private equity. Real estate and infrastructure are often selected for their ability to produce consistent income streams, while private equity is an alternative investment class that invests in or acquires private companies that are not listed on a public stock exchange.
Here’s why I am motivated to get investors prepared. Volatility in the stock market becomes a higher risk, the older you get, and too many of us fail to make changes to our investments to account for this risk. Jeremy Grantham, the market historian, said, “The prices of stocks, bonds, real estate, fine art and other investments ballooned to unsustainable highs during the pandemic.”
Grantham went on to say in Bloomberg: “The current bubble is pretty damn big compared to previous ones, and dwarfs the dot-com boom in scope. Be advised this is not a genteel setback like 2000.”
He continued, predicting a bear market could persist until deep into next year. The dot-com crash only caused a mild recession, but the NASDAQ index plummeted 82%, and the S&P 500 was off 50% during that period.
Let’s agree with Will Rogers’ law of holes, which states, “If you find yourself in a hole, quit digging.”
In other words, when the situation is untenable, it is best to stop making the situation even worse. Russell 2000 small caps have underperformed the largest tech stocks on the NASDAQ 100.
Since March 6 the divergence has gotten more extreme. That is not good news.
“This glaring divergence may be the most important sign that stocks are about to turn down again into more dangerous territory,” submits Harry Dent. Let me suggest this to you: Don’t be scared, be prepared.
John Grace is a registered representative with LPL Financial. His On the Money column runs monthly in The Wave. The opinions expressed here are for general information only and are not intended to provide specific advice or recommendations for any individual.