It’s the holiday season. Parties are being attended with family and friends of long ago and those of the present day. We travel in a winter wonderland between the party stops in a snow drifting softly from the heavens to cover the earth. Houses are bedecked with colors beckoning us into a world of logs on a fire, mistletoe, and wondrous scents of the season. All of our senses are awakened and seem more alive.
Still, our sense of vision seems to predominate at this time of year. Everything seems brighter, more vibrant, and especially more red and green. Christmastime seems to overwhelm us with reds and greens. The colors are everywhere. Poinsettias, stockings hung from the mantle, plates on the table, wrapping paper, and holiday glasses—red and green dominate them all.
Have you ever wondered why red and green are the colors of Christmas? Theories abound.
Ancient Romans are said to have used the colors at Saturnalia, the festival of Saturn, which took place during December. Holly, its green leaves and red berries symbolizing hope in the midst of a wintry landscape, was used to highlight the festivities.
In more modern times, many have ascribed the use of red and green during Christmas to more commercial origins. The Coca Cola campaigns that began in the 1930s using the paintings of Michigan-born Haddon Sundblom were alive with the colors. The very first had a fat and jolly Santa in his red uniform, conveniently matching the firm’s red logo, working his magic around the green Christmas tree of our imaginations. For generations, the colors would forever be linked to Christmas.
The red and green of investing
Of course, these same colors are used to symbolize other things throughout the year. In my profession, in a world of spreadsheets, computer screens, and—above all—numbers, red and green are used profusely but with very different meanings.
A company is said to be “in the green” when it is profitable. On financial websites, positive returns are shown in green, and daily charts show the up days the same way.
In contrast, red is the color of losses. A company “in the red” is losing money. Charts with more red than green are downward sloping.
Unlike Christmastime, when both colors are associated with holiday joy, only green remains positive in financial terms. Red, like a stop sign, is a warning—or, worse still, conveys a sense of loss.
This year, despite each day’s ups and downs that make a daily chart of prices look like a Christmas string of lights with alternating bulbs sparkling red and green, the trends of the three main uncorrelated asset classes—stocks, bonds, and gold—are all up for the year. It seems those who invested in any of these three asset classes will likely receive a positive year-ending gift from their investments.
This is rarely the case, however. In many years, stocks and bonds have moved in opposite directions. Gold charts its own course. Some years it seems to move alongside stocks, and other years it moves with bonds. As a result, these three asset classes together provide the pillars forming the foundation for any truly diversified portfolio. Over the long run, each is uncorrelated—moving in unique rhythms apart from the other.
The power of this lack of syncopation is shown in the following chart, which shows the performance of the three for 2008.
While bonds and gold provided decent annual returns that landed investors in the green for the year, stocks in the second year of the financial crisis fell precipitously and ended decidedly in the red.
The power of gold
About five years ago, my firm, Flexible Plan Investments, began writing an annually updated white paper entitled “The Role of Gold in Investment Portfolios.” Each year the paper retraces the daily steps of these three assets since 1972 and calculates the ultimate portfolio of the three to reach the ideal spot on the efficient frontier created by modern portfolio theory. In last year’s report, the ultimate blend of the three assets was 48% in stocks, 32% in bonds, and 20% in gold.
Using those allocation percentages, an investor in 2008 would have returned -10.4%, while stocks were falling over 30%. This year so far, the same investor would have made 19.7%. Excellent returns in very different types of years—such is the power of a truly diversified portfolio.
Unfortunately, most investors will never invest in this ideal portfolio. They and their advisers would be fearful of such a large percentage being permanently allocated to gold, and, perhaps, disappointed by an allocation of less than 50% to stocks.
They may also opine that such a portfolio should not be adopted by everybody. Investors have different appetites for risk. Some can take a hefty dose in pursuit of larger gains, while most (72% in the latest Northwestern Mutual survey of investor attitudes) “were more comfortable reducing risk to ensure the safety and stability of their savings and investments, even if it meant the potential for lower returns.”
To accommodate these different opinions and aversions, some years ago, my firm created our All-Terrain suite of strategies. As the name implies, these strategies were created to help investors safely traverse the wide range of return terrains encountered daily in the financial markets.
In creating these All-Terrain strategies, we were mindful of the different portfolios diverse investors require. The result was five distinctive strategies to match with each suitability portfolio’s risk profile, from conservative to aggressive. Each makes extensive use of stocks, bonds, and gold asset classes, while the All Weather versions use a few more as well:
Each of the strategies is available for mutual funds and ETF investors.
The major stock market indexes finished higher last week: The Dow Jones Industrial Average gained 0.43%, the S&P 500 Stock Index rose 0.73%, the NASDAQ Composite climbed 0.91%, and the Russell 2000 small-capitalization index tacked on 0.25%. The 10-year Treasury bond yield fell 2 basis points to 1.82%, sending bonds slightly higher. Spot gold closed at $1,476.33, up $16.16 per ounce, or 1.11%.
Last year, Santa delivered coal into most investors’ stockings as stock indexes fell from September into December. Fortunately, Christmas Eve saw a change in heart as it marked the bottom of the long fourth-quarter decline. Once Christmas passed, stocks rallied.
This year is a much more normal fourth quarter and holiday season with stocks rising the closer we get to the year-end holidays. The gains last week and so far this week illustrate this.
Of course, with financial markets, there are never any guarantees. But, barring any surprises, we continue to believe stocks will move generally higher into the new year.
Bespoke Investment Group just completed a couple of interesting studies that I thought spoke to this and provided support. So far this year, the S&P 500 has registered a better than 20% year-to-date return. Going back to the S&P’s origin in 1928, Bespoke found that whenever the S&P 500 was this far ahead on December 16, stocks did well over the rest of the year.
As you can see in the 19 instances where the index was returning over 20% year to date on December 16 (which is the case this year), the index generated an additional average return of almost 2%. And it was positive in 74% of the years.
If we look at the 25 years where the S&P 500 gains were still above 20% before year-end, Bespoke found that the following year continued to look rosy.
The median return is pretty close to the annual return that history tells us to expect from stocks over the long run, and the percent of profitable years is not as high as in the year-end study. Still, it is comforting to see that the pervasive fear that the outsized gains achieved by the stock averages this year do not mean that we are necessarily in for a downturn next year.
The Federal Reserve at its Open Market Committee meeting last week confirmed that it did not intend to change rates in the foreseeable future. Despite that assurance, bond yields continue to creep higher. This is happening despite the fact that we see some technical signs of a rate turnaround.
On the positive side, increasing rates are a sign of a stronger economic outlook for the recovery. Talk of a 2020 recession seems to be rapidly receding.
While retail sales, unemployment claims, and worker productivity reports disappointed last week, a measure of small-business earnings in the U.S. jumped to the second-highest level in its history, according to data from the National Federation of Independent Business. As a result, its Small Business Optimism Index registered its biggest month-over-month gain since May 2018.
I continue to believe that although a minor downturn may occur at any time, most evidence supports a rally through the remainder of the year.
Disclosure: No communication by Dynamic Performance Publishing or our employees to you should be deemed as personalized investment advice. Any investment recommended in this newsletter should be made only after consulting with your investment advisor and only after reviewing the prospectus or financial statements of the company. Dynamic Performance Publishing, its affiliates, and clients may hold positions in the recommended securities. Results are not indicative of holdings for clients of Flexible Plan Investments. Forwarding, copying, or otherwise duplicating this information for the use by anyone other than the intended recipient is expressly forbidden. These results are not representative of those achieved by clients of Flexible Plan Investments, Ltd. (FPI) due to differences in security selection, timing of trades, transaction fees, and FPI’s management fees.