We Live in Interesting Times....

As a result, psychologically, we want to control things as that sense of control can be comforting. As the US election approaches, I think we can all agree that it will very likely lead to increased market volatility as we get closer and closer. The question is, will the volatility be positive and add to equity returns or will it be negative and have a drag on those returns? And should I do something with my portfolio in anticipation? Before you answer, consider what happened during the 2016 election:

It was almost unfathomable that Trump would get into the office in November of 2016. Polls showed Clinton winning by a large margin. Speculation was rampant that a Trump win would be disastrous for equity markets. After the republican upset on the night of November 8, 2016, S&P 500 futures traded down 5% before circuit breakers kicked in to stop the decline. I remember talking to a good friend about how he stayed up all night in hopes of buying a list of stocks only to be underwhelmed by where the market opened after a sleepless night; down only 1.8%. That Monday and the subsequent Trump win on Tuesday, marked the end of the longest equity losing streak in decades, and markets closed higher. As of last Friday, the S&P500 has returned 64% since the last presidential election.

There were 2 sectors that forecasters speculated would benefit under a Trump presidency, Energy and Financials. The two very sectors that have been amongst the worst performers in the index. The Financial Sector is down about 4% since the last election and energy is down over 50%. Even if one was able to forecast the outcome of the election, forecasting the market’s reaction is impossible.

Peter Lynch once said that if you spend more than 13 minutes analyzing economic and market forecasts, you’ve wasted 10 minutes.

One of the important conclusions that we have come to is that if people don’t have some understanding of statistics, it’s going to be hard for them to be what I’ll call a well-behaved investor. A test we heard from Mark Hebner of Index Fund Advisors is, “if I flip a coin and get ten heads, what’s the probability of tails? That’s my first test. If they say 50/50, I know, oh, they have got a chance. But when they say, oh, it’s 80% tails now after all those heads, there’s gambler’s fallacy there.”

When we talk about the markets, we always hear people talk in the past tense. A lot of news outlets talk about the markets going up or going down. Predicating this future is just about impossible to do. The future is uncertain, so we can only talk about markets in the past tense. Every day, every minute there is new information available, sometimes its good news, other times its bad news. If there is good news, we feel more confident in the future of the market. Bad news makes our future look uncertain. The Efficient Market Hypothesis (EMH) states that share prices reflect all information and consistent alpha generation is impossible. Stocks always trade at their fair value, making it impossible for investors to purchase undervalued stocks or sell stocks for inflated prices.

Competing against tens of millions of buyers and sellers around the world is a difficult if not impossible game to play. Therefore, trying to outperform the market through stock selection or market timing, is not a gamble we are willing to take with our client’s assets.

This is a clear example of the benefits of an evidence-based approach to portfolio management which all our clients employ. Since we only have a 50/50 chance of picking which direction the market will go in the short term, and even if we pick correctly, picking the ensuing winners, is virtually impossible. Owning a broad swath of the market ensures that we are well-positioned to participate in growth regardless of the sectors/companies benefiting.

If you find that you have deeper concerns about the short-term impacts of volatility in your portfolio, please contact us. This would indicate that your risk tolerance likely no longer aligns with your current investment objectives and we should reevaluate how much exposure you have to equity positions moving forward.