2011 Q3 Market Update


State of the Market


The third quarter of 2011 saw significant declines in stock markets around the world as concerns about Europe’s debt woes and negative economic news sparked recession fears. The total returns for major asset classes are below.




































































Asset Class Representative Index











U.S. Equities S&P 500











Intl. Equities MSCI EAFE











Emerging Markets MSCI Emerg. Markets











U.S. Bonds Barclays Aggregate











However, the numbers above do not tell the entire story. Markets around the world are experiencing a “flight to quality.” In this type of environment, some investors run scared and sell risk assets (stocks, real estate, corporate bonds, etc.) and buy safe assets (predominantly the U.S. dollar and U.S. Treasuries). The irony is that this “flight to quality” coincided with the recent downgrade of U.S. Treasury debt by S&P. The current state of affairs could be captured in this fictional headline:



“Investors, Fearing Possible Treasury Default, Sell Stocks, Buy Treasuries”
These mass shifts in risk appetite disrupt the normal relationship between asset class prices and their underlying values. The net result is a decline in the S&P 500 of roughly 17% from its peak reached in late April. This is one of twelve declines of 15% or more suffered by the S&P 500 since 1950, as indicated on the chart below. These setbacks come in a variety of shapes and sizes, and it can be easily observed that they tend to be clustered together. (More on that later.)



Despite these declines, and the various economic stumbles that caused them, the S&P 500 has annualized at 10.9% over the same period (See chart below; 1950 – Q3 2011). An investor earning 10.9%, annually over that period would have turned a $1 investment into $606. To us, the lesson is that temporary setbacks are just that – temporary – no matter how permanent they seem at the time.



Investing is a Marathon, Not a Sprint


Our approach to managing investments recognizes two competing needs:








  • The need to earn a return that will allow our clients to accomplish their family’s long-term goals, and
  • The need to own an investment portfolio with which our clients are comfortable, so they can stay the course through difficult markets


At their core, portfolios are built with a combination of stocks and bonds in a ratio designed to meet both of these needs. (Stocks have a high return potential but are quite volatile, while bonds have a lower return profile but less price fluctuation.) In addition to these two main asset classes, we use a variety of alternative investments designed to bridge the gap between the risk profiles of traditional stocks and bonds. 


In times such as these, it is always helpful to put things in a long-term perspective. Equity markets are our best hope for keeping up with and beating inflation over time, but markets move in cycles. Long-term trends are often referred to as secular markets, while short-term trends are referred to as cyclical. 


Using the U.S. stock market (S&P 500) as an example, over the last 60 years, investors have experienced two 20-year secular bull markets followed by two 10-year (or longer) secular bear markets. 



Hopefully, we are in the final stages of a long and painful correction that began in 2000. After multiple advances and setbacks, we find the S&P 500 at roughly the same level it was at in the late 1990’s. In the years since, however, the economy has grown enormously, corporate profits have roughly doubled, and valuations have fallen significantly. These factors - low valuations, healthy corporate profits, and an eventual economic recovery - will hopefully set the stage for a new secular bull market at some point in the near future.


It may be months or years until we once again have the wind at our back as investors, but our clients are fully invested in a plan designed to meet their long-term needs. They are poised to reap the benefits when the wind blows again in our favor, and are positioned for long-term success.


In this time of uncertainty, should you or someone you know be concerned about reaching their long term goals, we would be happy to discuss the situation. A second opinion is always prudent.

Posted by Jay Healy at 7:52 AM
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