Election Impact – Tuesday’s dramatic U.S. presidential election result has shocked the world. A number of clients have expressed high levels of anxiety due to the outcome. It is important to reiterate that elections by themselves do not decide policy outcomes, nor do they generally direct the long-term health of the economy and the businesses that operate within it. Without knowing which policy proposals will eventually be enacted – and how implementation may play out – making preemptive, emotionally charged investment decisions is more likely to hurt one’s portfolio than help.
We have carefully analyzed the performance of the stock-based mutual funds we own for their performance during the 2008-2009 sell-off, choosing funds that held up better than their peers and/or benchmarks during the downturn. One can never assume past performance will be repeated in the future. However, past activity can be a guide to probable reaction to similar future events assuming no great change in mission statement or portfolio manager(s).
Diversification – We cannot emphasize enough the importance of having a healthy level of respect for the highly unpredictable nature of the markets over the short-term. We have learned this lesson over 30 years of managing money. The start of this year saw equity markets decline across the globe. Markets had regained the ground lost and returned to a 1-year high by May. Then June saw a sharp Brexit related decline that now appears as a small blip on history graphs. Managed futures holdings provided valuable diversification benefits and reduced risk to client portfolios during these events as they have almost no correlation to broad stock market activity. A diversified portfolio, like that of most of our clients, should hold asset strategies that have positive expected returns and either low or no correlation to each other over the long-term. As a reminder, correlated assets move with each other, while non-correlated assets move independently of each other. For example, stocks and bonds tend to move separately, or even opposite of each other. There are significant benefits to adding assets that have very low or no correlation, even if their expected returns are somewhat lower than that of existing holdings. Managed futures is just one example of how we gain diversification and lower risk by adding assets with low correlation to an existing asset mix.
Bonds – Bonds are another diversification tool we use in client portfolios. We expect a gradual increase in interest rates over the next year. Shorter term bonds and bonds with the ability to increase their interest rates, such as floating rate bonds, are sectors we are comfortable holding in client portfolios. Bonds are lower risk assets to hold in case of a stock market sell-off, acting as a shock absorber as money flows from the stock market to bonds. As with managed futures, we have been adding to these asset categories over the past year. Media reports of a change in Federal Reserve policy regarding raising interest rates due to the election outcome are speculative in nature at this point in time. This is currently an area of unknown policy shifts.
Summary – We have entered a period of uncertainty linked to possible and probable policy changes. We do not know the nature of these changes yet. Trump’s most recent speech referenced infrastructure spending increases, indicating this is a likely front burner topic to be addressed by the new administration. A measure of clarity in this and other areas will be obtained over the next 60 days as the outline of the new administration takes shape. We have already seen some positive activity as the steep market drop predicted by after-hours and international trading failed to materialize. Many stocks within the financial and energy sectors have seen large gains since the close of the election. In contrast, tech based companies have seen some declines to their valuations. It is too early to react strongly to any of the changes expected to materialize from this election. It would not be prudent to react until new policy positions are noted and the details of these changes are fleshed out. There will undoubtedly be a number of new positions to parse over the coming weeks, but we are not there at this point in time. Now is the time to reflect on what this election shows about the country as a whole and to prepare for the general changes ahead.