Be Wary of Predictions—Brexit, or Otherwise
Last weekend, I realized we were about due to publish our monthly update, but little had changed since mid-May. Since there was a lot of focus on the British elections this past Thursday to potentially leave the EU (European Union—thus the name Brexit), I figured why not wait.
After Friday, I definitely have more to write about, though I’m not certain any of it is earth-shattering. Because there was such complacency about the outcome and heavy betting that Britain would vote to remain in the EU, markets worldwide reacted with violent moves, with gold and government/high quality corporate bonds rising sharply, while stocks and foreign currencies plunged. In one day, the S&P 500 wiped out all of its progress since March 28, yet is still slightly up for the year when dividends are counted (which they should be). International stocks, though, dropped from -5% to -8%, and wiped out gains for the entire year and then some.
There’s Always Something to Worry About
On Friday morning and afternoon, I received dozens of emails from investment firms offering their opinions and insight on what to make of this surprise news. But, it’s all conjecture. No one can know what will happen from here. So, we’re not writing to you to profess that we have all the answers.
One of the inquiries we received Friday was from a reporter from the Wall Street Journal, asking financial advisers what they were planning to do now that Brexit happened, and what are you telling clients? My reply to the reporter was rather straightforward, and is unlikely to be used. Here’s what I said:
“We’re not doing anything different because of Brexit, or the Election, or anything for that matter. Our message to clients is—we have a disciplined process, and as long as we follow it over time, we’ll get the results we need. Reacting to news events is typically one of the worst things investors can do. That doesn’t mean the financial markets don’t have problems.”
A number of clients during recent meetings have asked about our thoughts on the upcoming Presidential Election. And we have the same response. Either Hillary will win, or Donald will win. Life will go on. Given the reliance of markets on the Federal Reserve and monetary policy the past seven years, that area is probably more important than anything, and it’s now likely the Fed will not be raising interest rates for some time.
Investment Allocations
Ultimately, on a weekly and sometimes daily basis, we examine the evidence of our various models and adjust positions accordingly as things change. As I write this, we continue to be in a moderately invested position—not too hot, and not too cold. In the past several weeks, tactical equity exposure did tick up to 64%, but was pared back early last week to 56%, and will move to 50% on Monday (today). Basically, about half of our stock models are bullish, and half are bearish or neutral.
Despite Friday’s carnage, high yield bond funds actually closed higher on the week, and our model for this area remains on its February 29 BUY signal, as does our Real Estate model.
Mind you, some of this could change quite rapidly if prices were to break down. With small and mid-cap indexes, the NASDAQ and Dow Transports, along with bank stocks and international stocks already below their mid-May low, I expect the S&P 500 to follow suit, which would be a break below the 2025 zone (Friday’s close was 2037). A sustained close below the 200-day moving average at 2020, coupled with SELL signals from our high yield bond model would certainly damage the bullish outlook.
Bank Stocks, and Imagine the Unthinkable
The financial sector of the stock market (banks, brokerage firms, insurance companies) is pretty important to the overall health of the stock market, and in 2007, forewarned of the massive troubles that ultimately took place in 2008. Below is a chart of the KWB Bank Index, courtesy of www.stockcharts.com. This index fell over 7% on Friday and appears headed for its April lows.
In Friday’s trading, the yield on the 10-year Treasury note fell intra-day to 1.42%, the lowest level in 4 years and near the lowest level in history. The Fed’s policy of keeping interest rates near zero is killing the banking system (European bank stock charts look even worse). The fact that financial stocks may be breaking down is a warning sign, and the Fed can do very little about it, because every day, they are losing credibility.
During the first week of the year, Barron’s published an interview with a money manager who indicated we would likely see the 10-year Treasury yield at 1% sometime this year. It was about 2% at the time. At first, I thought that would be crazy. But, I no longer think it is impossible, given how many foreign countries have taken their interest rates negative (that is a whole story in and of itself). One might ask these various countries—how is that working for you?
Not very good, which is why I hope we do not see this outcome in the U.S. It might temporarily boost returns on government bonds and high quality corporate bonds, but I believe it would be a massive negative for stocks.
Not Everyone Can Handle the Stress of Investing in Stocks
In the long run, stocks have proven to be the best investment on the planet. But, I said the long run, which is 15 years or longer, because there have actually been 10-year periods when stocks have lost money (not often, mind you, but it’s happened). In the short run, though, stocks will periodically go through severe declines. It is these declines—of 30%, 40% or 50% and more, that try the souls of men and women, and why TABR has always had a focus on risk management. Most humans are not built with the DNA to live through such pain. But this is what markets do.
We spend a lot of time with clients learning about their risk tolerance, risk capacity, and educating them on the worst case historical outcomes of stock and bond market history. This is how we how we help make decisions on the most appropriate allocations for client portfolios, so they’ll stick with the plan when the s**t hits the fan. Because, some day it will. Again.
With the S&P 500 only about 4% off its all-time high, it’s not too late to adjust one’s risk, especially if it is out of line with an outcome that is inconsistent with your tolerance. The higher returns that stocks can offer over time come with much higher volatility than bonds, but not everyone can stand the heat in the kitchen. The right balance is what we strive for in each client’s situation, so they can sleep at night, no matter what. For some, a heavy dose of bonds, and settling for lower returns and lower volatility is a fine trade-off, especially if one can still meet their goals.
The TABR Client Survey
We’d like to thank all of our clients who took time from their schedules to recently complete our client survey, which was administered by the staff at ActiFi. We had a 33% participation rate, and are very appreciative of that.
We were really pleased to receive such detailed feedback, and it’s helping us to make decisions about our business without having to guess what is important to our clients. We are not looking for pats on the back, but rather wanting to understand what is working well. We want to make sure that we continue to do what is working well, while at the same time improving in areas where we may have fallen short.
As mentioned, from the pool of participants who answered the survey, ActiFi randomly selected one of them, and they will receive a $150 gift card/certificate to their favorite restaurant. We’re happy to announce the winner, who is Steve F. of Murrieta.
Material of a Less Serious Nature
An 80-year-old man was having his annual checkup and the doctor asked him how he was feeling. “I’ve never been better!” he boasted. “I’ve got an eighteen year-old bride who’s pregnant and having my child! What do you think about that?”
The doctor considered this for a moment, then said, “Let me tell you a story. I knew a guy who was an avid hunter. He never missed a season. But one day he went out in a bit of a hurry and accidentally grabbed his umbrella instead of his gun.” The doctor continued, “So, he was in the woods and suddenly a grizzly bear appeared in front of him! He raised up his umbrella, pointed it at the bear and squeezed the handle. And, the bear dropped dead in front of him!”
“That’s impossible!” exclaimed the old man. “Someone else must have shot that bear.”
“That’s kind of what I’m getting at. . . .” replied the doctor.
All of us at TABR are grateful for the trust and confidence you express in us daily.
Sincerely,
Bob Kargenian, CMT
President
TABR Capital Management, LLC (“TABR”) is an SEC registered investment advisor with its principal place of business in the state of California. TABR and its representatives are in compliance with the current notice filing and registration requirements imposed upon registered investment advisors by those states in which TABR maintains clients. TABR may only transact business in those states in which it is notice filed, or qualifies for an exemption or exclusion from notice filing requirements.
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Comparison of the TABR Model Portfolios to the Vanguard Total Stock Index Fund, the Vanguard Total International Stock Fund and the Vanguard Total Bond Index Fund is for illustrative purposes only and the volatility of the indices used for comparison may be materially different from the volatility of the TABR Model Portfolios due to varying degrees of diversification and/or other factors.
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