Spring 2020 Market Review for each asset class

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simplesauce
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Spring 2020 Market Review for each asset class

Post by simplesauce » Sat May 23, 2020 8:50 am

Below is a Spring 2020 Market Review for each asset class within stocks and bonds. (This is from the Rebalance investment committee which includes Charley Ellis, Dr. Burton Malkiel, and Jay Vivian.)

(Also at the bottom, it includes the changes they are making to portfolios due to current market conditions:)

Growth Asset Classes

Large U.S. Stocks. Stocks fell sharply in reaction to the ongoing COVID-19 crisis and the related shutdowns of economies in the U.S. and abroad. U.S. shares fell with record-breaking speed, down in weeks by percentages typically seen over months in past bear markets. Volatility measures spiked to an all-time high in mid-March while recorded volatility rivaled only Black Monday in 1987. The Federal Reserve and Congress immediately stepped into the breach with an interest rate drop, asset purchases, and direct financial aid to businesses and individuals, but the full impact will remain unclear until well after companies fully report first- and second-quarter earnings.

Small Cap Stocks. Investors sold off small-cap stocks more aggressively than their large-cap brethren, likely on fears that small-firm business models would be more challenged by the incipient economic shutdown than large firms with more resources and, in some cases, cash-heavy balance sheets. The typical “flight to quality” response was in play as investors sought to avoid short-term pain by moving money into bonds and blue-chip equities. Volatility is part of the package with small-cap investing.

International Developed Stocks. Given that the COVID-19 crisis unfolded across parts of Europe ahead of its major impact in the United States, the impact of the shutdowns were felt among large foreign stocks more keenly in the first quarter. Business activity indices showed record declines as both the consumer and industry froze up over uncertainty; supply chains halted and demand fell. The European Central Bank and the Bank of England have promised relief is on the way. Already in a funk, Tokyo delayed its long-planned summer Olympic Games for a year. The games had been projected to boost the economy.

Emerging Market Stocks. The pullback from risk assets naturally extended more deeply into the relatively riskier developing-country equities markets. Brazil slashed its interest rate, as did Mexico, in response to the COVID-19 slowdown. Russian shares fell sharply as oil prices collapsed. An ongoing price war between Russia and Saudi Arabia had pushed down oil to punish their competition, then global demand cratered and supply flooded into container ships at sea.

Real Estate. Low interest rates should be a boon to the debt-dependent real estate business, but nothing really fixes the problem of rent strikes and empty commercial and retail space. When the economy is stressed lenders tend to walk away from property development, then problems compound as lease defaults pile up. Small business, office space, and malls were negatively affected by the general business malaise; even healthcare real estate faced stress as elective care was delayed to offset the impact of emergency response needs.

Income Asset Classes

U.S. Government Bonds and TIPS. It should come as no surprise that as investors fled the relative risk of equities the beneficiary was the relative safety of U.S. government debt. The Federal Reserve slashed the interbank borrowing rate to zero in response to the pandemic but that didn’t stop fearful investors from flooding into bonds and even cash as refuge from howling market winds. The 10-year Treasury ended the quarter at a yield of 0.70%.

U.S. Corporate Bonds. While corporate bonds are usually viewed as a relatively safe place to park cash, they do represent risk compared to government bonds. Investor fear took over the market and public company bonds fell on concerns that flagging profits and declining debt quality would introduce unwelcome risk into the market. Liquidity also played a role as bond fund managers were forced to sell in order to fulfill redemptions as investors exited those funds. The Fed stepped in to support the corporate bond market as it tanked.

High Yield Corporate Bonds. The Fed announced plans to purchase high-yield bonds if necessary. Lower-quality bonds saw the worst of the flight to higher quality debt, Treasury bonds and cash. Recession fear overcame investor interest in the better returns often found in the junk bond market. Hardest-hit were companies related to travel and retail, as well as energy as the price of oil crashed to zero. The great unknown for investors remains upcoming corporate earnings statements.

Emerging Market Bonds. Local currency debt is highly sensitive to the direction of the U.S. dollar. While we purchase debt denominated in dollars, if the local currency weakens against the greenback, that increases the cost of the debt to the sovereign issuer. The declining oil price hurt economies dependent on oil exports most, but all economic growth has been put into question by the pandemic, causing investors to pull back on emerging market debt as a result. The rapidity of the decline makes comparisons to 2008 difficult but, all things being equal, a market in freefall should find buyers at some point.

Preferred Stocks. Preferred stocks got through the first couple of weeks of the broader stock market decline unscathed, though they eventually suffered sharp moves in both directions amid rising doubt about what exposure financial institutions have to bank loans likely to default if COVID-19 continues well into the future. The sharp drop in bank preferred-share prices suggests that investors believed that those loans represented a systemic threat to the financial system. Nevertheless, shares eventually recovered much of their losses and, while still down for the year, they are an essential part of an income portfolio and offer a high dividend rate that compensates investors for volatility.

Here are the portfolio changes they are making in response to this information:

1. In a world with near zero percent interest rates, the Investment Committee felt it important to seek alternative sources of income for our clients. In most portfolios, a high-yielding ETF was added with nearly 400 high-dividend paying stocks, including AT&T, Procter & Gamble, Intel, and JPMorgan Chase.

2. Due to unprecedented amounts of monetary stimulus, renewed inflation is now a rising risk. As a result, in two of the growth portfolios Treasury Inflation-Protected Securities (TIPS) have been added. This addition protects against rising inflation via an ETF collection of specialized U.S. Treasury bonds.

Topic Author
simplesauce
Posts: 310
Joined: Tue Jan 17, 2017 8:22 am

Re: Spring 2020 Market Review for each asset class

Post by simplesauce » Sat May 23, 2020 4:08 pm

I am especially thinking about their adjustment to add TIPS. Why at this time in particular?

David Althaus
Posts: 207
Joined: Wed Feb 14, 2018 8:05 pm

Re: Spring 2020 Market Review for each asset class

Post by David Althaus » Sun May 24, 2020 8:44 am

TIPS questions for the experts:

1. What allocation required within fixed assets to make the view worth the climb?
2. If you have a total bond fund: while you may lag a little behind TIPS in rising inflation won't deletion of maturing bonds and addition of new (higher-yielding bonds) mitigate or certainly lessen such a disparity of inflation protected yield?

Seeking understanding

All the best

Topic Author
simplesauce
Posts: 310
Joined: Tue Jan 17, 2017 8:22 am

Re: Spring 2020 Market Review for each asset class

Post by simplesauce » Sun May 24, 2020 1:42 pm

David Althaus wrote:
Sun May 24, 2020 8:44 am
TIPS questions for the experts:

1. What allocation required within fixed assets to make the view worth the climb?
2. If you have a total bond fund: while you may lag a little behind TIPS in rising inflation won't deletion of maturing bonds and addition of new (higher-yielding bonds) mitigate or certainly lessen such a disparity of inflation protected yield?

Seeking understanding

All the best
I am not an expert but the Bogleheads Guide To Investing recommends 50% Total Bond, 50% TIPS. And they don’t recommend shifting allocations year in, year out. In my portfolio, I use stocks to outpace inflation. My Total Bond Fund is for safety, not income or inflation protection. I may consider adding TIPS as I near retirement.

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