Is Cash King?

The U.S. stock market has already risen 7.5% for the year and it shows no signs of slowing down.  This strong start is following a 21.8% return in 2017 and a 11.9% return in 2016.  In the S&P 500 Index about 140 companies have already produced a double-digit return.

By several metrics the market is trading at extreme valuations. The ratio and sentiment readings are at all-time highs.  The Cyclically Adjusted PE Ratio (CAPE) is 34.75.  The CAPE peaked in December of 1999 at 44.19.  Prior to Black Monday, October 19, 1987 it was 18 and on the eve of the 1929 stock market crash it was 30.[1]  The AAII Index, American Association of Individual Investors, lists 54.1% of its members as bullish.  The average reading for the index is 38.4%.[2] The Citigroup Panic/Euphoria Model is flashing the euphoria warning.  In September it was near panic levels.

With market and metrics peaking investors might want to sell their stocks and move the money to cash.  In the short term, this may be a prudent move.  Cash is a security blanket in times of uncertainty and it may provide comfort if the stock market were to fall.

The prior peak in the stock market was October 2007 when the Dow Jones closed at 14,198.  After it topped it fell 54% to a low of 6,469 in March 2009.  If you were able to sell at the top and buy at the bottom you’d be a legend.  This probably didn’t happen to you or anybody you know.  When an investor moves his money to cash to avoid a stock market correction he’ll usually buy again before it stops falling or well after it has recovered. In both cases he loses.

If you bought stocks in October 2007, a horrible time to invest, you still doubled your money at the end of 2017.  A $10,000 investment in the Vanguard S&P 500 Index Fund on October 1, 2007 grew to $21,309, a gain of 113%.  If you were dollar-cost-averaging by investing $1,000 monthly into this fund you gained 237% because you were buying stocks on the way down and the way up.  By investing monthly your original investment grew to $272,946.[3]

Does it make sense to sell your stocks and move your money to cash to avoid a stock market correction? Cash, as measured by the one-month US Treasury Bill, has averaged 3.4% since 1926.  A $1 investment in a T-Bill in 1926 “grew” to $21 at the end of 2015.  During this same time frame inflation averaged 2.9% so the return on your investment, before taxes, was .5%.  By comparison, $1 invested in the S&P 500 grew to $5,386.[4]

Since 2007 cash has had an average annual return of .7% and inflation 1.8% so you lost 1.1% per year by investing in a safe asset class.

Cash is looking more attractive as interest rates rise.  The Federal Reserve is expected to raise interest rates four times this year so the rate on your cash account should rise as well.  However, as interest rates rise so does inflation.  The rise in inflation will always reduce the return you earn on your cash investment and when taxes are applied it’s probable your annual return will be negative.

Diversification is a better alternative for an investor with a long-term perspective.  A balanced portfolio of 60% stocks and 40% bonds returned 8.4% per year for the past 31 years, a $20,000 investment is now worth $245,000.   This portfolio endured four major market corrections and during the most recent one, 2008, it did fall 16%.   A double-digit loss is not fun but losing 16% is much better than losing 54%.[5]

As the market continues to rise diversify your assets, rebalance annually, invest monthly, and follow your financial plan.  Your long-term goals are more important than short-term market moves.

“I am an old man and have known a great many troubles, but most of them have never happened.” ~ Mark Twain

Therefore, do not worry about tomorrow, for tomorrow will worry about itself. ~ Matthew 6:34

Bill Parrott is the President and CEO of Parrott Wealth Management an independent, fee-only, fiduciary financial planning and investment management firm in Austin, TX.  For more information please visit www.parrottwealth.com.

January 27, 2018

Note:  Past performance is not a guarantee of future returns.  Your returns may differ than those posted in this blog and investments aren’t guaranteed.

 

 

 

 

 

[1] http://www.multpl.com/shiller-pe/

[2] http://www.barrons.com/public/page/9_0210-investorsentimentreadings.html

[3] Morningstar Office Hypothetical Tool.

[4] Dimensional Funds 2016 Matrix Book

[5] Morningstar Office Hypothetical Tool, 12/31/1986 – 12/31/2017, Vanguard S&P 500 Index Fund and Vanguard Total Bond Fund.

Oars in The Water!

Rowing is a sport of endurance, synchronization, and faith.  There are numerous regattas, but I prefer watching the large boats with eight rowers and a coxswain.  For the crew of a boat to be successful they must row as one.  Their blades need to enter and exit the water at the same time to the cadence of the coxswain.

Rowers sit with their backs to the finish line, oblivious to obstacles, while faithfully following the instructions of the coxswain.  A team of eight will have different roles in the boat.  The “stroke” sits near the front, or stern, and sets the pace for the others.  The power seats, three through six, drive the boat. This is the engine and these seats are usually assigned to the biggest, strongest rowers in the crew.

In addition to moving the blades through the water one instruction from the coxswain is to “let it run.”  This is the instruction given to the rowers to lift their oars from the water and let the boat glide through the finish line.  The crew does nothing but let the boat cut through the water.

Asset allocation has several similarities to rowing.  The rowers in the boat sit in different seats with separate functions but they work together to move the boat forward.  Asset allocation works well because an investor owns different investments spread out across the globe.  Even though the investments differ by type, size and location, they’re working as one for the benefit of the investor.

In a famous study by Gary P. Brinson, L. Randolph Hood, and Gilbert L. Beebower the authors found that asset allocation accounts for 93.6% of an investor’s return.  The remaining 6.4% can be attributed to market timing and security selection.[1]   For example, if you invested 100% of your money in the Vanguard S&P 500 Fund you made 21.77% in 2017.  If you invested the same amount in the Vanguard Total Bond Fund, you earned 3.57%.   How you allocate your assets matters.

Here are a few more ways investing is like rowing.

Plan.  To be successful it’s imperative for the crew to have a plan.  A lot of strategy is needed in a 2,000-meter race.   An individual, too, needs a plan to be successful.  A strategy to guide you from school, to work, to retirement is paramount if you want to retire on your terms.

Faith.  The rowers in the boat have their back to the finish line and are oblivious to the obstacles.  The coxswain must steer the boat, set the pace, and avoid the obstacles.  The rowers put their faith in their coxswain to deliver them to the finish line.  A Certified Financial Planner® functions like a coxswain.   He guides his clients to the finish while avoiding obstacles.  He’ll set the pace through the asset allocation and investment selection based on the client’s financial plan.

Dollar Cost Averaging.  The blades of the oars move through the water at a measured pace.  The constant motion of the blades entering and leaving the water is what propels the boat forward.   Dollar cost averaging is the constant investing of the same amount, monthly.  For example, a $1,000 monthly investment in the Dimensional Micro-Cap Stock fund starting on January 1, 1982 is now worth $5.5 million![2]  The automatic investing is what drove your assets forward.

Patience.  After your investments are set, do nothing.  A buy and hold strategy is often the best way to create long-term wealth.  Fight the urge to trade often or tinker with your portfolio.  If your portfolio is set up correctly and it’s based on your financial goals, it should treat you well.  Remember the coxswain’s command to “let it run.”

As you move through 2018 follow your plan, invest often, and diversify your assets.  Over time, this strategy will thrust you closer to your investment goals.

All were merged into one smoothly working machine; they were, in fact, a poem of motion, a symphony of swinging blades.” ~ Daniel James Brown, The Boys in the Boat.

When He got into the boat, His disciples followed Him. ~ Matthew 8:23.

Bill Parrott is the President and CEO of Parrott Wealth Management an independent, fee-only, fiduciary financial planning and investment management firm in Austin, TX.  For more information please visit www.parrottwealth.com.

January 25, 2018

Note:  Past performance is not a guarantee of future returns.  Your returns may differ than those posted in this blog and investments aren’t guaranteed.

 

[1] https://www.jstor.org/stable/4478947, Vol. 42, No. 4 (Jul. – Aug., 1986), pp. 39-44, website accessed 1/21/18

[2] Morningstar Office Hypothetical Tool, DFA Micro Cap Stock Fund, January 1, 1982 – December 31, 2017.

The Peloton

A peloton is a thing of beauty with hundreds of cyclists riding as one.  It moves like an enormous, colorful snake as it serpentines across valleys and over mountain ranges.

According to Merriam-Webster’s dictionary “peloton” first appeared in 1951; coined by the French to mean “ball.”  A giant ball of cyclists hurtling through the country, shifting gears in unison, and rising from their saddles in perfect harmony is an amazing site.

A peloton is extremely efficient as riders use each other to propel themselves faster.  It can travel at speeds of more than 30 miles-per-hour for a long time.  The lead rider does most of the work while the others in the middle the pack use about 40% of their energy.  When the lead rider gets tired he’ll move to the side to let the peloton pass and then he’ll hitch a ride to the back of the pack and conserve his energy as he works his way back to the front of the group.

The Tour de France is a three-week race with 21 stages covering 2,200 miles. It starts at sea level, traverses through the French Alps and finishes in Paris near the Arc de Triomphe. It’s a long race and the peloton is a useful resource for the riders to utilize so they can finish the race.

When I watch the Tour de France I’m intrigued when two or three riders break away from the pack.  They’ll mount an attack to separate themselves from the peloton by pedaling at a furious pace; hopefully catching the group by surprise.  The goal is to win a stage and finish several minutes ahead of the other riders.

A breakaway is exciting.  On-lookers, announcers and teammates cheer the small pack of riders on and wish them the best. It’s a game of cat and mouse that can last for hours. However, in the end, the riders usually get swallowed by the peloton and finish the stage well behind the winners.

In investing terms, the peloton is like an index fund and the breakaway group, an individual stock.  An index fund is efficient because it benefits from the collective wisdom of millions of investors owning thousands of stocks.  A few of the more popular index funds are the Vanguard S&P 500 Index Fund (VOO), the iShares S&P 600 Small Cap Index Fund (IJR), and the Dimensional Fund Advisors Emerging Market Fund (DFCEX).  These funds returned 21.77%, 13.15%, and 36.55% in 2017, respectively.

When you own an index fund you don’t have to worry about picking the best stock or owning the right sector.  With a diversified basked of low-cost mutual funds, you’ll own thousands of companies, across several sectors domiciled in various countries.  It would be financially impossible for most investors to replicate a portfolio of index funds by picking individual stocks.

Stock picking is fun, and it may produce a few winners over time.  Like a breakaway rider, you may win on occasion.  However, it’s not possible to consistently beat the stock market and your stock portfolio will eventually be passed by the market.  Morningstar tracks over 110,000 stocks so how’s it possible to pick the best two or three companies each year that will outperform the market?

Dimensional Fund Advisors did a study on stock performance from 1994 to 2016 and they found that if you owned a portfolio of stocks from around the world your returns would’ve averaged 7.3% per year.  However, if you excluded the top 25% of performers each year you would’ve lost 5.2% annually.[1]

If you have a strong desire to pick individual stocks, keep your allocation to 10% of your portfolio and invest the remaining 90% in a diversified portfolio of low-cost mutual funds.

A bike has many moving parts all designed to help the rider; a peloton will use these features to move closer to the winner’s podium.  As you build your portfolio, don’t go it alone, harness the power of index funds along with the guidance of a Certified Financial Planner®!

Happy Cycling!

Life is like riding a bicycle. In order to keep your balance, you must keep moving.” ~ Albert Einstein.

A person standing alone can be attacked and defeated, but two can stand back-to-back and conquer. Three are even better, for a triple-braided cord is not easily broken. ~ Ecclesiastes 4:12.

 

Bill Parrott is the President and CEO of Parrott Wealth Management an independent, fee-only, fiduciary financial planning and investment management firm in Austin, TX.  For more information please visit www.parrottwealth.com.

January 18, 2018

Note:  Past performance is not a guarantee of future returns.  Your returns may differ than those posted in this blog and investments aren’t guaranteed.

 

 

 

 

 

 

 

 

[1] DFA Funds, Investment Principles, Diversification My Prevent You from Missing Opportunity, 1994 – 2016

Will Stocks Rise Forever?

Voyager 1 was launched on September 5, 1977 by Jet Propulsion Laboratory (JPL) and it’s currently 13 billion miles from Earth travelling at a speed of 38 thousand miles per hour.[1]  It’s the only man-made object in interstellar space and it recently fired up its boosters after 37 years.[2]  The original mission for Voyager was to study Jupiter and Saturn but now it appears it will travel through space forever.

The Dow Jones Industrial Average passed through 26,000 today and shows no sign of slowing down.  Is it possible we’ve entered a new galaxy for stocks where they always rise and never fall?  It feels like it, but I doubt it.  Since March 9, 2009, the Dow Jones has risen 19,557 points or 303%.

How does this run compare to previous bull markets?  The longest running bull market occurred during the ‘50s and ‘60s where the Dow rose for 15 years and soared 936%.  After the Great Depression it rose for 14 years and gained 815%.  In the ‘80s and ‘90s there were two bull markets both lasting 13 years. The ‘80s market rose 845% and the ‘90s, 816%.[3] It appears this current bull market has more fuel in the tank.

Of course, stocks can’t rise forever without a correction and gravity will eventually take over.  A bull market is always followed by a bear market.  Since 1930 there have been eight significant corrections with the worst one occurring during the Great Depression when stocks fell 83%.  The 2000 Tech Wreck brought the market down 44% and during the Great Recession it fell 50%.[4]

What can you do now as the market continues to rocket higher? Here are four suggestions.

  • Your financial plan is your command module. It controls your asset allocation and investment selection based on your financial goals.  It will help guide your decisions through bull and bear markets.
  • If you’re invested with a diversified portfolio, keep your trajectory because a buy and hold strategy is difficult to beat. Since 1926 the stock market has averaged a 10% annual return.
  • If you’ve missed this bull run and you hold a large cash position, then start to buy stocks and bonds. This can be done with a lump-sum purchase or through dollar-cost averaging.  Dollar-cost averaging is an automatic purchase of a specific dollar amount monthly.  For example, you invest $1,000 into a basket of mutual funds on the 5th of every month regardless of price.
  • You can wait for the market to correct and buy the dip. It takes fortitude to buy stocks when others are selling, but this is when you’ll get the best prices.  Warren Buffett said, “Be greedy when others are fearful.”

The market’s rise has been meteoric, and we can start to see airglow, but it doesn’t mean we’re going to fall into a black hole.  There’s no radar system to warn us of a correction so invest according to your plan, adjust as needed, and good things will happen.

“We choose to go to the moon in this decade and do the other things, not because they are easy, but because they are hard. ~ John F. Kennedy

“Houston, Tranquility Base here. The Eagle has landed.” ~ Neal A. Armstrong

Bill Parrott is the President and CEO of Parrott Wealth Management an independent, fee-only, fiduciary financial planning and investment management firm in Austin, TX.  For more information please visit www.parrottwealth.com.

January 16, 2018

Note:  Past performance is not a guarantee of future returns.  Your returns may differ than those posted in this blog and investments aren’t guaranteed.

 

 

[1] https://voyager.jpl.nasa.gov/

[2] https://voyager.jpl.nasa.gov/news/details.php?article_id=108

[3] https://www.ftportfolios.com/Common/ContentFileLoader.aspx?ContentGUID=4ecfa978-d0bb-4924-92c8-628ff9bfe12d, site accessed 1/16/18.

[4] Ibid.

The Mighty Mississippi!

The Mississippi is the longest river in North America.  The headwater is Lake Itasca in Minnesota and then it travels south for 2,350 miles to reach the Gulf of Mexico near New Orleans.  It’s the fourth largest river in the world.[1]  The watershed for the Mississippi covers about a third of the United States from the Allegheny Mountains to the Rocky Mountains.[2]  The Missouri from the west and the Ohio from the east are two of the largest rivers flowing into the Mississippi.  The Yellowstone, Platte, Arkansas, Chippewa, Wisconsin, Cumberland, and Tennessee rivers also drain into the watershed.

92% of our country’s agriculture travels through the Mississippi basin and 60% of grain exports are shipped from the Port of New Orleans.  The river is also a major source for wildlife.  60% of North American birds use it as a flyway while migrating and 25% of all fish species in North America can be found in the river.[3]  It boarders ten states and its tributaries touch another twenty-one. 18 million people living in 62 major cities rely on the river for daily drinking water.[4]

The Mississippi is a major source for our infrastructure supporting people, commerce and wildlife.  It’s the backbone of our country and it can teach us a few things about financial planning and investing.

  1. A financial plan should be the main source for your investments. It can help you navigate your financial goals and dreams.
  2. Several rivers flow into the Mississippi watershed. They differ in size and can be found in diverse locations across the country.   Your portfolio should own investments across sectors and countries, so you can maintain a diversified portfolio.
  3. The average surface speed of the Mississippi is about 1.2 miles per hour, so it takes three months for water to travel the length of the river.[5] Patience is needed if you were to float it.  It also takes patience to be a successful investor.  It may take months or years for your portfolio to show promise so don’t be discouraged when it’s meandering.
  4. The river can also rage. In 1993 its flood crest was 49.5 feet in St. Louis, a record[6].  The water travelled fast and caused much damage, but it eventually returned to normal.  The stock market will also experience short term anger and inflict harm to your accounts.  However, corrections are short-lived relative to the long-term rise in the market so stay the course.  The market, like the river, will eventually return to normal.
  5. The Mississippi supports life directly and indirectly. Your investments can sustain your family through capital gains, dividends and interest payments. It can also provide for those in need through charitable giving and philanthropic planning. If structured correctly, your portfolio can improve the lives of those it touches.

The Mississippi is a thing of beauty and wonder; it’s power and prestige are world renowned.   Harnessing its power while maintaining its splendor is key for it to continue to bear fruit.   Harness the power of your portfolio and it too will bear fruit!

The Mississippi River will always have its own way; no engineering skill can persuade it to do otherwise… – Mark Twain.

 but whoever drinks the water I give them will never thirst. Indeed, the water I give them will become in them a spring of water welling up to eternal life.” ~ John 4:14.

Bill Parrott is the President and CEO of Parrott Wealth Management an independent, fee-only, fiduciary financial planning and investment management firm in Austin, TX.  For more information please visit www.parrottwealth.com.

January 15, 2018

Note:  Past performance is not a guarantee of future returns.  Your returns may differ than those posted in this blog and investments aren’t guaranteed.

 

[1] https://www.nps.gov/miss/riverfacts.htm

[2] Ibid.

[3] Ibid.

[4] http://whale.wheelock.edu/watersheds/mississippi/Mississippi.html

[5] https://www.nps.gov/miss/riverfacts.htm

[6] https://weather.com/news/news/mississippi-river-flooding-december-2015, by Jon Erdman, 1/6/2016

The Process.

Nick Saban will lead the Alabama Crimson Tide in pursuit of the school’s 17th National Championship; his sixth.   Alabama wins a lot of football games and so does Nick Saban, however, he doesn’t focus on results or wins.  His key ingredient for success is the process.  He wants his team to win the day and improve daily.

His process strategy started at Michigan State while working with one of the school’s psychology professors.  The professor pointed out to Saban and the players that the average football play lasted just seven seconds.  He taught the players to focus on those seven seconds and not the score.[1]

Investors would be wise to take some coaching tips from Nick Saban and follow a process.  It will allow them to shift their focus from “winning” the investment game to a daily routine that will help them create long-term wealth.

Here a few ideas to help you develop your own process.

  • Invest on a regular basis. An automatic monthly investment into your company 401(k), IRA or investment account will allow you to save money without emotion.  This process is known as dollar-cost averaging and you’ll buy when the market is up, down or sideways.  For example, a $1,000 monthly investment in Dimensional Fund Advisors Small Cap Fund (DFSTX) for the past years ending on 12/31/2017 is now worth over $274,000, an average annual gain of 13.39%.   It did well despite a 40% drop in 2008.[2]
  • Rebalance your accounts annually. A $10,000 investment into both the Dimensional Fund Advisors Small Cap Fund and their Intermediate Government Fund ten years ago started with a 50%/50% portfolio.  If you did nothing, the small cap fund now accounts for 64% of your portfolio, too much risk based on your original allocation.  Rebalancing your accounts annually will allow you to maintain a 50%/50% asset allocation.[3]
  • Implement a buy and hold strategy. Trying to time the market is a loser’s bet and it will under perform a buy and hold strategy over time.  A diversified basket of stocks has never lost money over a twenty-year period.[4]  The long-trend of the market is up and one way to profit from the rise is to buy and hold quality companies.
  • Buy the dip. The market fluctuates daily so when it drops use it as an opportunity to buy quality companies at lower prices.
  • Ignore the scoreboard. Quotes for stock prices are constantly available allowing you to track your portfolio’s value in real time.   Short term market moves might force you to act emotionally or irrationally causing harm to your long-term financial goals.
  • Review your accounts. An annual review of your financial goals and investment accounts will allow you to perfect your process.  What worked?  What didn’t?
  • Hire a Certified Financial Planner ® who can help you formulate a game plan based on your financial goals. A planner, like a coach, can help you improve your results.

Investing isn’t a game and not having a plan or process can have negative consequences.  To increase your odds of success, spend some time this month defining or refining your financial goals.  It will take more than seven seconds, but it will be worth it once you’re done!

What happened yesterday is history. What happens tomorrow is a mystery. What we do today makes a difference. ~ Nick Saban

Bill Parrott is the President and CEO of Parrott Wealth Management an independent, fee-only, fiduciary financial planning and investment management firm in Austin, TX.  For more information please visit www.parrottwealth.com.

January 3, 2018

Note:  Past performance is not a guarantee of future returns.  Your returns may differ than those posted in this blog.  Investments are not guaranteed.

 

 

 

[1] http://www.businessinsider.com/alabama-coach-nick-saban-process-2015-8, By Richard Feloni, August 12, 2015.

[2] Morningstar Office Hypothetical Tool, 12/31/2007 – 12/31/2017.

[3] Ibid.

[4] Morningstar Ibbotson® SBBI ® 2015 Classic Yearbook, 1926-2014.