A Bumpy Ride Ahead?

As the summer draws to an end, so too does the fairly mellow capital markets ride we’ve experienced most the summer.  As you may have noticed, the US stock market closed down about 2% yesterday; the largest one day drop since summer just started in June.  In reflecting on the markets, the economy and the state of politics, both at home and around the world, we believe yesterday’s degree of movement may become more common as we head into fall.  And we’d like to remind you of why we believe its ok.

To begin, why did the markets have a bad day yesterday?  Well, no one really knows the definitive answer; however, there are certainly some good reasons to speculate as to why.  Namely, the Treasury Department’s announcement late Monday that it would hit its borrowing limit in mid-October, which is sooner than many expected, and geopolitical concerns stemming from the allegation the Syrian government used of chemical weapons  on its people.

As you may recall, in 2011 members of congress battled amongst themselves over the debt ceiling that ultimately resulted in the U.S. credit rating being lowered; a historic and unprecedented move that the markets have not forgotten and likely to worry it will happen again.

Geopolitical concerns, for the moment, seem to be taking a back seat to our domestic political issue (the debt ceiling). That may very well change and become a more primary concern as the details unfold about what happened in Syria, and with Russia and China lined up in support of Syria. Meanwhile, the escalating tensions have pushed up oil prices and other assets seen as havens during times of crisis, such as U.S. Treasuries and gold.

An interesting quote from the Wall Street Journal online yesterday:

“Despite the sharp declines, with the S&P 500 suffering the biggest one-day selloff since June 20, traders said the day's activity didn't reflect panic on the part of institutional buyers.”

Sounds like good news - why might that be?  Again, no one can be sure but we’ve had some good economic news this week.  More specifically, the consumer confidence report was released Tuesday this week revealing consumers are still opportunistic with a score of 81.  The Conference Board Consumer Confidence Index®, which had declined in July, increased slightly in August. Says Lynn Franco, Director of Economic Indicators: “Consumer Confidence increased slightly in August, a result of improving short-term expectations. Consumers were moderately more upbeat about business, job and earning prospects. In fact, income expectations, which had declined sharply earlier this year with the payroll tax hike, have rebounded to their highest level in two and a half years. Consumers’ assessment of current business and labor market conditions, on the other hand, was somewhat less favorable than last month.”

Additional good economic news may be found in housing sector; the S&P/Case-Shiller 20-City home price index for June rose 12.1% from the same period a year ago, compared with expectations of a 12.2% increase, and unemployment rate continues fall currently residing at 7.4%  the lowest in several years.

Around the world, the European markets slumped, with the Stoxx Europe 600 losing 1.8%, as worries about Syria and the U.S. debt ceiling overshadowed upbeat data out of Germany. The Ifo institute's business confidence index for Germany rose more than expected to 107.5 in August from 106.2 in July.

Asian markets ended mostly lower. Japan's Nikkei Stock Average shed 0.7% as a result of concerns over Syria. China's Shanghai Composite bucked the regional trend, rising 0.3% after data showed total profits among industrial firms in July grew 12% from June, accelerating from a 6.3% increase the previous month.

October crude-oil futures climbed 2.9% to settle at a six-month high of $109.01 a barrel. August gold futures rose 2% to $1,420.60 an ounce, a three-month high. The yield on the 10-year Treasury note fell to 2.722% from 2.805% late Monday, as Treasury prices rose. The dollar slipped against the euro and the yen.

As you can see from reading this, the news is a mix of good and bad, just like normal. What will the media focus on?  Those items that well get the best headlines and attention.

Wonder when we going to get the “why we believe it’s ok” part of this update?

Let’s circle back to the research and science upon which your portfolio is managed: asset allocation, diversifying around risk and the all-important opportunistic rebalancing. More specifically our approach to opportunistic rebalancing includes reviewing your portfolio once a month and when it drifts too far, it triggers a sale of what’s done well (locking in gains) and forces us to buy low (buying what’s on “sale” if you will).  Research suggests this very item, rebalancing, can add as much as half a percent of return per year over the long run*    

We get the feeling the markets maybe become a bit more volatile as congress works through the debt ceiling issue and as the Syrian story plays out.  The point of this email is to prepare you for that volatility and to remind you that volatility is not necessarily a bad thing when your portfolio is properly diversified and opportunistic rebalance is in place.  In fact the volatility gives rise to more opportunistic rebalance because the thresholds are tripped as a result of the volatility.

With this in mind, if you plan on taking an unplanned draw from your portfolio within the next six months, please let us know as soon as possible.  Otherwise, as summer fades and the fall colors begin to appear, and in the words of the airline pilot, “Please fasten your seatbelts, we expected turbulence ahead.  No need to be alarmed, though, we just want you to be prepared for what may be a bumpy ride ahead”

If you have any questions or concerns, please call either one of us.

Jim and Debbie

*Opportunistic Rebalancing: A New Paradigm for Wealth Managers by Gobind Daryanani CFP®, Ph.D. Journal of Financial Planning, January 2008

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2012 Financial Markets And Economic Review