2023-03-06 08:10:09 ET
Summary
- Since the start of the pandemic-induced stock market top on February 19, 2020, returns for many conservative asset types have been awful.
- It has now been over 3 years since then. But despite some occasional rallies, the net result for many go-to strategies for investors has been mediocre or worse.
- The markets have changed, and investors need to change with them. Here's a modern investing primer for retirees and pre-retirees.
By Rob Isbitts
This has been some 3-year period for investors! Whether you are a do-it-yourself (DIY) type, a paid professional or some other version of the term "investor," this has been a historically-challenging period. If nothing else, this article might re-assure some investors that they are not as much of a novice or relatively poor investor as they might think if they look at how they have performed since the pandemic invaded our lives.
We currently sit in midst of the 3-year anniversary of that crazy period during February and March of 2020, which led to a series of subsequent rallies and declines which resembled a roller coaster (and felt like one, literally). But as I say to anyone who will listen, past performance guarantees only 2 things:
1. You can't have it. It is in the past. This where many investors get caught, chasing what they wish they had owned before, now that it is up.
2. If you did experience it, you can't reverse time and get a "do-over." That's obvious. But one current concern I have about the DIY investor population is that they spend a lot of time looking backwards, and mapping the past to the future. There's nothing wrong with doing that as research. In fact, it is essentially. Where I think many go off course in modern markets is that they simply take the past and expect that the future will look the same. That has never been a worse bet than right now.
3 year later, what's made investing tougher?
1. Ubiquitous information available on investments, markets and opinions about them
2. Interest rate patterns, unlike we've seen in our lifetimes
3. The range of participant-types in the modern stock market.
4. Investor obsession with the Fed, to the point where every investor has no choice but to pay closer attention to the flip-flopping market reactions. Volatility is too high to just ignore them.
You see, things worked out in 2020, in that the steep decline in stocks did not last. That may not happen at some point, and it could be a retirement plan crusher. In addition, bonds were there to save stocks the past few years, but that tool may be off the table if rates continue higher. That does enhance the appeal of US T-Bills and maybe shorter-term Treasury Notes, but beyond that, history is not a good guide for how bonds support weak stock markets.
This is all to say that today's conservatively-minded DIY and professional investors have a lot of work to do. Because when we look at the net result of the past 3 years, the conclusion I reach is this: very little worked in a way the produced competitive returns without taking a lot of risk. And, market conditions may not make the next 3 years any easier. That means investors have to think differently. The rest of this article is devoted to my primary thoughts on how to do that. Because it is what I have been and am doing for myself and my own family's liquid assets, after focusing most of last quarter-century on "other people's money." I was an investment advisor and mutual fund manager during that time, until selling my practice in 2020 to "retire" a bit. It turns out, my version of retirement is to work just as many hours, but to focus exclusively on what I think, and disseminate that in the way you are reading right now.
3 Years of Nothing: How it started
My wife and I remember being on a cruise in early February with Train, our favorite musical group. At the time, some folks on the cruise were talking about this virus over in Asia that some people though could reach the states. 3 weeks later, I cancelled a trip to a big conference, less than 48 hours before we were to leave. The shutdowns had not yet started, but I told my very understanding wife that I could not leave my desk that next week. That was after the close on Friday, March 6, 2020, and the S&P 500 Index closed at 2,972 that day, about 12% off its recent peak back in February.
11 trading days later, on March 23, 2020, the S&P 500 bottomed intraday at 2,192, a drop of more than 26% over that period. Then came a gigantic "relief" rally, thanks to massive government stimulus. That allowed the S&P 500 to vault back up to 3,369 on November 3, less than 1% from where the calamity started back on February 19. If there was ever a time to reset one's objectives, risk tolerance and personal investment plan of attack, that was the moment.
Here's what it looked like in chart form.
Since that time, what's happened? Here's a chart of several popular DIY investor remedies for rough markets, to try to get themselves where they want to go. Here's what is pictured below, using ETFs as a proxy for my main point, which is at a strategy level, not an opinion on a particular security. There are several alternative ETFs for each of the strategies represented in the chart below:
Traditional conservative stock/bond allocation strategies, high yield bonds, preferred stocks, high-yield stocks and traditional aggregate bond strategies all lost money or about broke even. US 3-month T-Bills outperformed them all, even though for about 2/3 of that period, they were yielding close to zero. The one bright spot, if you call it that, was a covered call strategy that takes advantage of S&P 500 volatility, but gives up the upside. That squeaked out a positive return, thanks to a couple of volatility spikes during this unusual period. Still, the highest return on this graph is under 6%. That's cumulative, not annualized. And it covers more than 3 years' time. As I see it, retirees and pre-retirees can withstand a 3-year period like the one we just had. But they can ill afford another one, back-to-back. That calls for some assessment of what to do in a market that just doesn't make things easy for those who don't have a 50-year time horizon.
What should investors prioritize in the months and years ahead
The past is done. What about the now and the future? Recognize that markets have changed, and they are not changing back. Not soon, and maybe not ever. Unless they take our phones away, investing is now driven by events, data and plenty of noise that past eras did not force us to pay attention to. Return of capital should come before return on capital.
Sure, you eventually got there the past 3 years, but you had to deal with a drawdown (decline from peak to trough) of about 20-50%! Until recently, the bond asset classes had very little income cushion. That's why you can see that some of these market segments (the stock market-oriented ones) crashed in 2020, while others (the interest rate sensitive ones) did not get into big trouble until 2022. Going forward, I think it is a great idea for investors to assume that in both cases, this can happen again, and it can happen to either or both at different times, or at the same time (as in 2022).
Study up on the reward and risk potential of fixed income markets
Based on the many conversations and great dialogue I have been privileged to take part in within the Seeking Alpha comment sections on my articles, I have a strong sense that today's investor is, in the aggregate, either under-educated or miseducated (thanks to big Wall Street firms) about how the bond market worked historically, and how it works now.
For instance, bond ETFs have a massive impact on how the whole bond market prices itself. Many big hedge funds do less buying of individual bonds, as was the case in the "old days" of the 1980s and 1990s, the era of my Wall Street youth. Instead, they trade in and out of shares of the biggest bond ETFs. That turns a very individualized market into one where all boats can be tossed by the tide, so to speak.
In addition, rates are much higher than they were just a year ago. But can they go higher? Yes. Much higher? Yes. To not account for that possibility is a very dangerous way to go about retirement investing.
Above you see the risk that hit many bond investors the past 3 years. Using the iShares 20+ Year Treasury Bond ETF ( TLT ) as a proxy for locking in yields using ETFs or mutual funds, and focusing just on the price component, you can see what can happen when interest rates go up. During the past 3 years, the 10-year US Treasury Bond has zoomed from 0.4% to around 4.0%. It literally moved the decimal point over one place! The 30-year Treasury sits at a similar yield level.
So, if long-term rates rise another 1%, 2%, 3% or more in the coming years, that risk will be realized again, minus some income for locking in around the 4% mark. And, while buying individual bonds provides the more direct investment scenario of being able to hold your bonds to maturity, the fact is you could lose 1/3 or more of your principal value. That likely means your bonds are no longer competitive versus inflation (loss of purchasing power) and that you essentially have an illiquid security, since you'll need to wait years or decades to get back to where you were when you bought it.
Investors should learn to be nimble in the bond market the way they may be used to operating in the stock market. Because with yields gyrating like they have been for over a year now, those 2 markets resemble each other much more closely. This all starts with learning more about the true rewards and risks of bonds. I have written several articles on Seeking Alpha about this topic, both through strategy reports and on individual ETFs that I currently like or don't like currently. All of it can be found here.
Stop reaching for yield!
This is without a doubt the number one concern I have after conversing with scores of investors in the Seeking Alpha comments section in reaction to my articles. I've taken plenty of flack, and I welcome the debate. But the one thing that is lacking from several of the discussions I've seen, both in my comment sections and those of other contributors, is that there is still an assumption that higher yield is automatically better. That implicitly demands that credit markets behave themselves, that long-term rates are close to peaking, and that the Fed can step in and fill any market divots that arise. I think that's quite a trio of things to count on. I don't think this collective perspective is a result of arrogance or ignorance. The Seeking Alpha community is, for the most part, full of serious investors, interested in exchanging ideas and research, and engaging in healthy discussion and debate so each community member gets what they want out of the process.
What may be missing is simply the fact that many investors have not seen an environment anything like this for income investing. Maybe they've heard about or studied the 1970s, when stock and bonds fell at the same time. But today's markets are filled with so many new influences, and prices just don't move up and down for the same reasons they did for so long. There's never been a better time to understand how bond investing works. That is, unless you were an investor during the 1970s, the last time we had anything resembling this.
Don't count on the stock market as much as you used to
The most amazing thing about the past 3 years in the stock market (using the S&P 500 as a proxy) is that it is still within striking distance of where it peaked at the start of 2022. And, it is still about 35% higher than that March 6, 2020 level I pointed out earlier. That's a big "win" for the S&P 500, even if returns of more income-oriented equity investors have been closer to zero for 3 years.
However, retired and pre-retired DIY investors have to consider what you see below. Over the past 3 years (through February 2023-end), despite all of the messy market activity and risks, the S&P 500 still produced a 41% total return. But if you look toward the left half of the chart, you will see that this is not how stock bear markets tend to end. Around this time in 2003 and again in 2009, they ended about 45-50% lower than they were 3 years earlier. In the current cycle, we have yet to even see that 3-year S&P 500 total return get close to zero. Something always happened to bring it back. That "something" was typically Fed policy moves or government stimulus. Maybe that happens every time in the future. But I am playing it differently. I'm allowing for that possibility, as I allow for all possibilities I can think of. But I am definitely not counting on it. Again, I've written many articles for Seeking Alpha (under Modern Income Investor) that cover the current challenges and potential future opportunities that I think can come to the aid of investors over the next few years, when equity strategy is considered. The bottom line for now is that most dividend stocks and ETFs still look very expensive, and most high-growth-potential stocks and ETFs look alluring for brief moments, but those temporary spikes are more likely to continue fizzling out for the foreseeable future. This recent article discussing some of that using the proverbial 30,000-foot view.
Are you a Do It Yourself Investor? Then Prove It...To Yourself.
This is a great time to ignore everyone...including me...when it comes to what any investor's preferred strategic path is. I've laid out here and in many other articles the past few months on Seeking Alpha what I am doing and thinking on a variety of topics. Frankly, much of this article was driven by what I've seen and heard in the commentary in reaction to my more than 100 articles the past few months. There's much more to come, but investors should have the following front-of-mind from here forward:
Figure out what your philosophy and process will be in this changed investing world. Then, create your own researched universe of securities to follow, and consider owning at some point in time (only you can determine when that point is - use people like me for idea-generation, perspective and research you might not otherwise do.
Putting it all together to attack the next 3 years
Nothing I or anyone else does on Seeking Alpha is investment advice. It is their own opinion, period. I am a technician for 43 years, and it appears the Seeking Alpha audience is interested in my views in that investment genre. So, I'll be increasing the amount of chart work I include going forward.
To me, technical analysis is the final point in the investment process, not the whole process. First, you need a philosophy, process, strategy, universe of securities and buy/sell method and mechanism you are comfortable with.
So, look back at the past 3 years, and see what you can learn from it. I've just told you what I've learned from it. And, while it has been quite a rigorous period for all investors, from professionals to beginners, I think long-term investment success is much more about how you learn from challenges than from successes.
For further details see:
Amid Crazy Markets, Here's An Action-Oriented Primer For Investors