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Note from the CIO: This Is Why We Have Principles

Post Series: Investment Committee Commentary Q1 2019

2018 was a paradox of records set in the American economy and a stock market that could not get out of its own way.

It is almost impossible to cite all the major metrics of the economy which blazed ahead in 2018. Worker productivity, which is the long-run key to economic growth and a higher standard of living, surged. Wage growth accelerated in response to a rapidly falling unemployment rate. Household net worth rose above $100 trillion for the first time, yet household debt relative to net worth remained historically low. Finally, for the first time in American history, the number of open job listings exceeded the number of people seeking employment.

Earnings of the S&P 500 companies, paced by robust GDP growth and significant corporate tax reform, leaped upward by more than 20%. Cash dividends set a new record; indeed, total cash returned to shareholders from dividends and share repurchases since the bottom of the Financial Crisis reached $7 trillion.

But the equity market had other things on its mind. Having gone straight up without a correction throughout 2017, the S&P 500 came roaring into 2018 at 2,674—probably somewhat ahead of itself, as it seemed to be pricing in the entire future effect of corporate tax cuts in one gulp. There ensued in February a 10% correction, followed by several months of consolidation. The advance resumed as summer waned, with the Index reaching a new all-time high of 2,931 in late September.

It then went into a sharp decline, falling to the threshold of bear market territory: S&P 2,351 on Christmas Eve, off 19.8% from the September high. A rally in the last week of trading carried it back up to 2,507, but that still represented a solid four percent decline on the year, including dividends. 2018 thus became the fifth year this millennium in which the Index closed lower than where it began. At the long-term historical rate of one down year in four, that’s actually just par for the course.

As we look ahead to 2019, there remains no shortage of uncertainties, in the economy and the markets. We don’t know how well or poorly consumers will absorb the rising cost of numerous goods that are now impacted by tariffs. Nor do we know how our trade policy with China will unfold in the months ahead, and it remains to be seen what the impact on the economy will be if and when interest rates continue rising in 2019. It is only human nature to wonder if now is a good time to be invested in the markets. And this is why we have investment principles.

To that end, it will be worth restating our overall philosophy of investment advice. It is goal-focused and planning-driven, as sharply distinguished from an approach that is market-focused and current-events-driven. In our experience helping families reach their goals, successful investors act continuously on a plan; frustrated investors get that way by reacting to current events in the economy and the markets. To paraphrase David Booth, CEO of Dimensional Funds: “The most important thing about an investment plan is to have one.”

We neither forecast the economy, nor attempt to time the markets, nor predict which market sectors will “outperform” which others over the next block of time. In a sentence that always bears repeating: We are planners rather than prognosticators.

Once a client family and its Abacus advisor have a plan in place—and have funded it with what have statistically been the most appropriate types of investments—we will hardly ever recommend changing the portfolio so long as your long-term goals haven’t changed. As a general statement, we’ve found that the more often investors change their portfolios (in response to the market fears or fads of the moment), the worse their long-term results. The four most dangerous words in investing are “this time is different.

Ownership of companies and investment real estate in the U.S. and around the world have historically been the most effective investments for keeping pace with — not only the rising cost of living, but — the rising quality of living that has unfolded over our lifetimes in a way no one could have imagined. In the year I was born, 1970, the S&P 500 index, adjusted for dividends, was 20. After five more years of the Vietnam War, three years of double-digit inflation and interest rates, four recessions and four bear markets, and the backdrop of the Cold War over the entire period, the index stood five times higher at 100 when I was in high school in 1985. Then followed the worst single-day drop in the stock market in history, the first Gulf War, two more bear markets and a recession, yet the index multiplied five times again to 500 in 1996, around the time that I completed my Ph.D. and started my first job as a “quant on Wall Street”. Today, after the 9-11 terrorist attack, the worst financial crisis since the Great Depression, five more bear markets and two more recessions, the index is yet again five times greater at 2,500. Over those 49 years, there prevailed one steady, peerless force for good, and fuel of the stock market: human innovation.

Here is to a great 2019 and to the continuance of human innovation!


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