A few weeks ago, I wrote a newsletter outlining the current mathematical challenge facing US stocks. To summarize: US stocks are unfavorably priced relative to history, US stocks are unfavorably priced relative to projected future earnings, and US stocks are unfavorably priced relative to bonds (& other fixed income securities).

Since that writing, stocks had significant declines with a strong rally this week.

Given circumstances, portfolio adjustments should be considered (in some cases already implemented). Any moves are designed to provide some level of defense should we see declines in stocks, but still capture the majority of the upside if markets rise.

This conversation is not relevant to all investors, or all investment accounts. Let’s establish where this is relevant.

1. Taking Withdrawals or Nearing Time (Retired & near Retirement) – Investors consistently taking withdrawals or nearing the point they will be.
2. Non-retirement Funds – Many investors have liquid, taxable investment accounts with different goals/objectives from their retirement funds.
3. Market Fatigue – Markets went on positive tear 2009 to 2020, during which volatility remained low. The 2020s have been a much more challenging environment for investors. 2022 was especially hard for retired investors, because we experienced a bear market in stocks and bonds. Rather than putting the car in park, sometimes investors need to take the foot off the gas a little. Better to get there 5-minutes later, than not get there.

2009 to 2020 was a very strong period for stock returns, and it was a period of extremely low interest rates. This made fixed income assets generally unappealing and led to the term “TINA” when describing the market environment, which stands for: There Is No Alternative. The implication was that investors were either in stocks or not invested, because fixed income was not providing a meaningful return above cash.

The world is different now. Fixed income assets can give investors meaningful positive returns, while having much lower short-term volatility than stocks. One might say that the 60/40 portfolio is back! Wall Street has described the situation as a “TARA Market,” which stands for: There are reasonable alternatives. Over the long-term stocks will continue to have superior returns vs. fixed income assets, but they aren’t only game in town anymore.

Now if you are reading this, and my last newsletter and thinking “how can we play defense if stocks take another downward tumble,” then see our below.

1. Increase Fixed Income Holdings – Meaningful returns with lower volatility.
2. More Active vs. Passive Holdings – Active funds have been unfairly treated over the last ~15-years. While it is true that in any calendar year only about half of active funds outperform their stated benchmark, they do better when/if markets go down.
3. Value/Dividends/Hedged – Owning stocks that are value priced, pay high dividends, or have some hedging mechanism may underperform broad indices in a rapidly rising market, but typically provide substantial cushion in down or flat markets. The goal here is to capture 60-80% of the upside, with only 40-60% of the downside.

Let me know if you have any questions. Talk soon.

Wyatt Swartz

Written November 3rd, 2023