One awakening in the final days of June might actually be under the impression things weren’t so shabby for the month, or the second quarter of 2011. Unfortunately, this increase at the end of June only provided a recovery towards previous losses for the month. The U.S. Stock Market as a whole lost 1.68% for the month of June, and was basically flat for the 2nd quarter, ending up a measly 0.14%. There were few safe stock havens to be had, although some asset classes performed better than others. European stocks struggled, with additional pressure in the form of a volatile Euro currency. While Asian currencies generally held up better, equities (stocks) struggled worldwide.
The world’s bond markets fared much better. For the quarter, the broad U.S. bond market returned 2.30%, providing the bulk of the year’s return so far. U.S. Government bonds, U.S. corporate bonds, and U.S. inflation-protected bonds (TIPS) all had strong returns during the period. Even in Europe, despite the struggling sovereign debt situation, the diversified zone as a whole showed a strong performance for bonds. This was also the case in emerging nations and much of Asia.
This serves as a strong reminder as to the incredibly important role that bonds play in a portfolio. We can’t predict so many things about the world’s economies and their financial markets, but we can look to history to see the frequent inverse relationship between stocks and bonds long-term. Just like their returns today, their long-term prospects are also likely to be inverse to that of stocks- but more on that below.
Throughout 2011, our firm’s research has caused us to use caution when considering the overall levels of stock investment as a part of our design and management of portfolios. In regards to our overall exposure, we continue to have concerns, but as we write this we are seeing prices improve on stocks, allowing us to increase stock investment to more normalized levels.
Investing in equities, as you know, does not come without risk. Among other things, it includes the risk of a decline in value after an investment is made. As we have seen in the past, no price level can permanently prevent a further decline. However, we believe there is strong support for buying through volatile markets. It can be more stressful at the time (as it seems our natural instinct is almost always the opposite, buy when things seem good, sell when things seem bad), but history tends to treat investors that practice this discipline better.
One only needs some simple statistics to see this point illustrated. Over the last 20 years, the U.S. stock market (as measured by the S&P 500) returned an annualized 9.1% to investors, and yet the average American investor during the same time period earned a mere 3.8% each year. This data depicts the negative effects of buying high (when things seem good) and selling low (when things are bad) commonly seen among investors today. We diligently remind ourselves of this each day at our office. It is our job, as professional financial planners, to provide the clarity and guidance that keeps those human (inverse) tendencies at bay.
Unfortunately for investors, we don’t have a crystal ball that predicts the future. Fortunately, however, neither does anyone else. That at least evens the playing field for all, and history has shown that the long-term rational investor is more likely to be treated better in the end. We try for nothing less at Callahan Financial Planning Company for each and everyone one of our clients.
The rest of 2011 has plenty of uncertainty and the potential for more declines in store for us. The bond markets, seemingly unshaken by the debt ceiling troubles, appear to be pricing in an economic slowdown, and potentially a further decline in global stock markets. The reality today is that investors must choose between a negative real yield savings account, historically low-yielding bonds or stocks in the midst of economic uncertainty. If you’re concerned about stocks today, for the good reasons shown above, there is a silver lining: We see a much better investing environment today than that of the late 1990′s/early 2000′s. So, those of you who own stocks for the long term, buckle up, grab some popcorn and sit back. We’ve seen movies like this before.
William Callahan, President and Chief Investment Officer
Callahan Financial Planning Company