A Flight to Safety

This decade is off to a tough start. The Coronavirus is disrupting global trade, travel, markets, and economies. The 2020 U.S. Presidential election will also add to the uncertainty and confusion. With increasing risk, should you buy, sell, or hold your existing investments?

When forecasts are dire, and projections are bleak, selling your stock positions and moving to cash makes sense. It seems prudent to sell your investments and park the money in a bank until the storm passes, and, when it does, you can repurchase your stocks.

Let’s say, for fun, you invested $1 million in the S&P 500 in 2005 – 100% of your assets. After three years, your strategy paid off. Your account at the end of 2007 is worth $1.172 million, a gain of 17.2%![1]

Here’s where it gets interesting because, we now know, 2008 was a horrible year for the S&P 500. If you decided to hold, you lost 38.3%. Your original investment of $1 million is now worth $747,392, a loss of 25.2%.

With hindsight, you would have sold your investment on December 31, 2007, to lock in your gains. If you sold, you would’ve been a hero, admired for having the foresight and courage to sell after three years of substantial profits. However, it’s unlikely you would’ve moved from cash to stocks in January of 2009 because we were in the midst of the Great Recession. You probably would have waited two or three more years to get back in the market, missing a 40.5% return. If you reinvested in January 2009, you made 23.6% for the year. If you had the conviction to buy the dip in 2008 and 2009, you made even more when stocks recovered.

If you ignored the bear market and held your stocks during the correction of 2008, you made $2.76 million from 2005 to the year-end of 2019, an increase of 227%. Now that your account balance is $2.76 million, what should you do -sell or hold? If you sell, you’ll pay a capital gains tax of 20%, or $455,243 – a significant number. If you hold, you may encounter another stock market correction. A repeat of 2008 would mean a loss of $1.25 million, but still above your original investment of $1 million.

It’s impossible to time the market, but they’re a few strategies you can employ to protect your assets. The first is to diversify your holdings to include different asset classes like small companies, international stocks, and bonds. A globally diversified portfolio of mutual funds would have lost 20.3% in 2008, not great, but better than a loss of 38%. True, you give up some upside, but you protect your assets to the downside. A balanced portfolio of 60% stocks, 40% bonds generated an average annual return of 6.5% since 2005. Your $1 million investment grew to $2.48 million.[2]

More stock means more risk, but it also means more reward. Buy and hold investors have been rewarded for their patience, and, hopefully, this time will not be different.  If you want to find out the risk exposure in your portfolio, give us a call.

“Go out on a limb. That’s where the fruit is.” — Jimmy Carter

February 3, 2020.

Bill Parrott, CFP®, CKA®, is the President and CEO of Parrott Wealth Management located in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process so our clients can pursue a life of purpose. Our firm does not have an asset or fee minimum, and we work with anybody who needs financial help regardless of age, income, or asset level. PWM’s custodian is TD Ameritrade, and our annual fee starts at .5% of your assets and drops depending on the level of your assets.

Note: Investments are not guaranteed and do involve risk. Your returns may differ from those posted in this blog. PWM is not a tax advisor, nor do we give tax advice. Please consult your tax advisor for items that are specific to your situation. Options involve risk and aren’t suitable for every investor.

 

 

[1] YCharts – IVV, 1/1/2005 to 12/31/2019.

[2] Morningstar Office Hypothetical

Know Your Risks!

During college, my friends and I would often go skiing in Lake Tahoe. I wasn’t a good skier, but I could fight my way down a mountain. Most of the time, I didn’t realize the risk I was taking because my friends were much better skiers, and I went where they went. One afternoon we were skiing at Squaw Valley, when my former roommate, who grew up ski racing and spent one winter working with the ski patrol, decided to ski Chute 75, considered the fifth steepest run in Tahoe.[1] Not only was it steep, but it was about as wide as a hallway. I skied the run under duress and against my will, but I survived.

My family and I recently returned from a ski trip, and my risk level is much lower. I mostly ski groomed blue runs, occasionally mixing in a black diamond run or two. Now that I’m older and wiser, I’m aware of the risks I’m taking while skiing.

This past decade stocks soared 185%, outpacing bonds by 143%![2] It was also the first decade on record without a recession. As the market rises higher, investors want more risk assets, and they are willing to chase returns while abandoning safe assets like bonds.

If you owned a portfolio consisting of 60% stocks, 40% bonds ten years ago, and left it alone, your current allocation is now 80% stocks and 20% bonds.[3] Your original portfolio is now 25% riskier. During the Great Recession, a 60%/40% portfolio fell 35%, and the 80%/20% portfolio dropped 47%.[4] An unbalanced, unmanaged portfolio returned 10.5% for the decade. If you rebalanced your account annually to your original asset allocation of 60%/40%, you earned 9.6% – a good return, with less risk.

January is an ideal time to check the risk level for your investments, especially after last year’s excellent stock market performance. If your risk level is high, lower it by rebalancing your portfolio to its original allocation.

Here are a few ideas to help you make sure your risk level is in line with your goals.

  • Start with the end in mind and work backward. What is your asset target? How much money do you need to meet your financial goals? How much is enough? If you have the assets to retire, sell stocks and buy bonds. Lock in profits, take gains, reduce your risk profile.
  • Review your asset allocation. What is your current allocation to stocks and bonds? A glance at your account statements should give you all the data you need to determine your asset allocation.
  • Examine your stock positions. Do you own any stocks that account for more than 15% of your portfolio? If so, sell half and distribute the proceeds across several asset classes. Diversify your investments.
  • Stress-test your portfolio. What would happen to your investments if the market fell 20%? Are you comfortable with the results? You might be content with a 20% drop in percentage terms, but what about dollars? A $5 million portfolio will lose $1 million if stocks fall 20%. Can you manage a million-dollar loss?
  • Rebalance your accounts. Rebalancing your accounts every year will keep your risk level in check and aligned to your goals. If you participate in your company’s 401(k), you probably have a rebalancing tab that will automate this process for you, so you don’t have to think about it every year. It’s counterintuitive to sell investments doing well to buy ones that aren’t, but this strategy will allow you to maintain a consistent risk profile. And, if you’re comfortable with your investments, you’re more likely to hold them for the long haul.

A Certified Financial Planner® can assist you in reviewing your investments, determining your asset allocation, and analyzing your risk level. They can also help you create a financial plan to make sure you’re on the right trail to achieving your goals. Here’s a link to the CFP’s website to help you find an advisor in your area: https://www.letsmakeaplan.org/. Check it out and give us a call!

Cross country skiing is great if you live in a small country. ~ Steven Wright

January 7, 2020

Bill Parrott, CFP®, CKA®, is the President and CEO of Parrott Wealth Management located in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process so our clients can pursue a life of purpose. Our firm does not have an asset or fee minimum, and we work with anybody who needs financial help regardless of age, income, or asset level. PWM’s custodian is TD Ameritrade, and our annual fee starts at .5% of your assets and drops depending on the level of your assets.

Note: Investments are not guaranteed and do involve risk. Your returns may differ from those posted in this blog. PWM is not a tax advisor, nor do we give tax advice. Please consult your tax advisor for items that are specific to your situation. Options involve risk and aren’t suitable for every investor.

[1] http://theliftiereport.rentskis.com/tlr/the-10-steepest-ski-runs-in-california/, Website accessed January 12, 2020

[2] Ycharts – S&P 500 Index and Vanguard’s Total Bond Fund.

[3] Morningstar Office Hypothetical – Vanguard S&P 500 Index Fund & Vanguard Total Bond Fund

[4] RiskAlyze