Thursday, August 8, 2013

Markets Update – Stock Market Continues to Trend Higher

From the Desk of Joe Rollins

July 2013 was another excellent month for the stock market. The S&P 500 was up 5.1% for July and 19.6% for the year-to-date; the Dow Jones Industrial Average was up 4.1% for the month and 19.9% for the year-to-date; and the NASDAQ Composite was up 6.6% and 20.9% for the year-to-date. During July, the Dow and the S&P both reached record levels while the NASDAQ reached its highest level in more than 12 years. Succinctly, if you were invested in the U.S. stock market during July, you likely would have earned more money in one month than a five-year CD pays an investor during the entire five-year period.

From an investing standpoint, July was an interesting month. For the first time in quite a while, the stock-pickers outperformed the index funds. Many of the actively managed portfolios exceeded the indexes by one to two full percentage points.

For the first time in many months, the international funds actually showed some positive returns. For example, European funds are starting to show positive returns along with Japan. As everyone has probably heard, Japan is trying to stimulate its economy and is basically committing all of its central government’s resources to contribute to increasing growth. Japan has basically been in a recession for the last 25 years and they have agreed to release all necessary federal stimuli to improve the economy. Personally, I’m not a believer in the Japanese way of doing things, and therefore, I don’t pursue Japanese investments.

Meanwhile, Europe is showing some early signs of improvement, but they’re a long way from being out of the woods from a financial standpoint. Until they figure out a way to stimulate the private business sector in Europe, they just cannot grow. Basically, almost all of the international funds are underperforming compared to the U.S. stock market, which is one of the best in the world.

For the month of July, bond funds showed a miniscule return and nearly all taxable and municipal bond funds are showing serious year-to-date losses. The only bond funds that are showing some life are the high yield bond funds, which actually had a decent return during July and at least have small positive returns year-to-date. However, with the high likelihood that interest rates will be going up in the coming months, bond funds may well continue to be a challenging asset class for investors.

Stock market returns this year have been nothing short of outstanding, and almost no one – including me – could have projected that the S&P would be up almost 20% in a little over half the investing year. At the beginning of the year, I projected that 2013 would end with low double-digit returns. Although things could certainly change between now and the end of the year, my projection has already been surpassed. Naturally, I’m often asked what to expect for the rest of the year considering the high returns we’ve realized thus far. Here’s my answer:

September is notoriously a difficult month for investors. Added to that month’s normal seasonal negative behavior in the market is the anticipation that the Fed will cut back on its bond purchasing program. For those reasons, I certainly expect for volatility to increase over the next 60 days. However, I don’t see the major markets totally unwinding. As long as there are no better alternatives to stocks, I expect the market – even if volatility is an issue – to trend higher.

There’s presently a great rotation occurring out of cash and bonds and into U.S. equities. In fact, bond funds are seeing record withdrawals with the vast majority of that money ending up in U.S. equities. With money market accounts paying zero and CDs paying only marginally higher, these types of investments will guarantee a loss of purchasing power over time unless, of course, there is no inflation.

Practically the only investment currently returning real returns over the rate of inflation is U.S. equities. Volatility will continue to be evident until other investments stabilize, but it is our intention to be principally invested in high quality U.S. equities.

I believe the final investment returns for the 2013 year will be fairly close to where they are presently. If 2013 ends with a 20% return, we would all agree that it was a very satisfactory investment year. Nevertheless, I’m not willing to cash in our chips today because I may be as wrong about this as I was about the low double-digit returns I forecasted at the beginning of the year. I have no reason to believe that the market will be lower at the end of the year than it is today, but I’m unwilling to get out because we need to participate when the market moves up.

A while ago, I read a book by Peter Lynch, the famous Magellan Fund manager during its heyday from 1977 through 1990. Lynch’s investing philosophy is to stay invested at all times regardless of economic circumstances, and he famously pointed out that "Far more money has been lost by investors preparing for corrections, or trying to anticipate corrections, than has been lost in corrections themselves."

As that remark pertains to this particular year, I believe it is wise to follow Lynch’s sound advice. As such, we will stay invested, even if there is a correction on the horizon.

As always, the foregoing includes my opinions, assumptions and forecasts. It is perfectly possible that I am wrong.

Best regards,
Joe Rollins