04/2024 - Just Invest in S&P 500?
Full written article below.
So why not just hold the S&P 500?
Since the bottom of the Financial Recession in 2009, the S&P 500 has trounced the Small Cap and International Indexes. So why do I need to diversify?
S&P 500 is the clear winner since March 2009 - April 2024 Source: www.kwanit.com
This is clearly a good point and a common sentiment I hear from clients and prospects.
My short, effective and true response is goes something like this – “so if you investment all your money in the S&P 500, what happens when that index falls from favor?” Generally, I get a blank stare because most who have the idea of investing only in the S&P 500 haven’t completed research on historical returns, diversification benefits, and how to implement research to their advantage.
What’s more, the conversation typically dies down once I show these next charts, comments below the charts.
Russell 2000 outpacing the S&P 500 from 2000 – 2021 Source: www.kwanti.com
Russell 2000 AGAIN outpacing the S&P 500 from 2000-2024 Source: www.kwanti.com
Almost equal returns from October 2023 – April 2024 Source: www.kwanti.com
Now yes, I will admit I see the trend of International Markets continuing to lag. I still do want some International in the portfolios, but the holding in International has reduced over the years, the current allocation to International is now at about 19%. I have a specific chart on why to own international positions in just a few charts.
But before I get into the Investment specifics, I want to step everyone back and put some perspective in place. Because before any investment is recommended or implemented,
Create your long-term Financial Plan, which a short way of saying that we need to deeply understand what you’re investing for and why
Once we have your Plan developed, we then seek to create a specific Investment Allocation that’s designed to work with your Plan and is flexible enough to work with ever changing goals.
Implement a repeatable process that allows for continual maintenance and reallocations
So to reiterate, first is developing financial goals and the plan to work towards those goals, then, what Investment Allocations should be used to work towards achieving those goals, and finally, how do we keep the portfolio relevant and in-line with your goals and the changing markets.
Speaking of goals, for most clients, retirement is the common goal, great. But what’s next? After you can afford to retire on your terms, adjusted for inflation, healthcare, and taxes, what else do you want to accomplish with your wealth, who do you want to benefit?
The answer to this question is not as straight-forward as creating a retirement projection.
The better, I, as the financial advisor can understand you, the client’s, specific financial goals, the better I’ll be able to guide us to what should be the right investment allocation.
Now, once we have your financial goals mapped out, or at least in the ballpark, we can then create a specific investment allocation that will be designed to work towards accomplishing your specific goals in a specific period of time based on your specific risk tolerance.
Yes, there’s a lot of specifics at work. There’s no one-size fits all and there’s no website you can follow that will give you investment guidance that will “work for you” in the absence of developing a financial plan. Sorry – life just isn’t that kind.
Final word on this - whatever your financial plan is and whatever your corresponding investment allocation is - it’s likely wrong. Sorry, it just is. We’re all humans, our goals change at a moment’s notice and likewise our investment strategies need to change at a moment’s notice as well. As such, as your financial plan changes your investment allocation should change as well. This is one of the reasons why I am such a strong advocate of fully liquid and fully flexible investment allocations.
Ok – Who’s now ready to get into why we shouldn’t all just own the S&P 500?
Diversified
Strategic
Research Driven
Implementation
These are the four foundations of Investment selection and allocation.
#1 Diversification – so much talk is given to diversification, but why? Especially in an environment of the S&P 500 significantly outperforming the other similar indexes.
Well, the chart below from Blackrock.com helps to paint a picture of the value of Diversification, for more insight, check out my video recording.
Speaking more on Diversification, it’s important to mention disproportionate returns. Try and answer this simple question. If your investment account dropped in value by 50%, what return do you need to get back to break-even?
Most will quickly fire off the response of … 50% will get me back to break-even. Unfortunately, once we think about this a little more, we realize this isn’t the case.
The below chart walks through several examples on what type of market advance is needed to get back to break-even. For more commentary on this, check out my video where I go a little off script.
#2 Strategic – to me, this is the most obvious. Unless you have a crystal ball, you don’t know the future and as smart as you may be, none of us know what the future holds. AND if there was a person or firm who did know the future, then 100% of all my investment dollars and 100% of all your investment dollars would be invested with that person or firm. This just isn’t the case. Because of this, I’ve learned to embrace my limitations and ignorance with investing. So to help create strategic portfolios, I utilize research from some of the world’s largest money managers.
The chart below shows portfolio performance before fees, from one of the portfolios I help manage for clients compared to similar portfolios from BlackRock, State Street, and Wilshire – As you can see, we’re currently outperforming comparative portfolios. There’s of course no way to know or guarantee future results.
**Returns listed are before any fees, the maximum fee from HWM is 1.45% annually** sourced from Kwanti.com
#3 Research Driven - In late January 2024, and then again in March 2024, there was a normal investment reallocation implemented into some portfolios. The current reallocation was designed to keep the portfolio in-line with the ever-changing investment market. Because of the strong start to 2024, along with delays in expected Federal Reserve Rate cuts, we slightly reduced exposure to Growth style companies, by about 3.5% and increased some positions in Value and Small/Mid cap. This especially makes sense when looking at some of the valuations of Large Cap Growth companies compared to other investment opportunities.
You can see on the below chart each vertical line represents a reallocation. You’ll notice there are no wholesale changes, just slight movements over the years
**Returns listed are before any fees, the maximum fee from HWM is 1.45% annually** sourced from Kwanti.com
#4 Implementation – If you’re a client of Hobbs Wealth Management, you’re accustomed to seeing trade notices on your accounts, keep in mind there’s no additional fee or cost for these trades. The trades completed are part of a normal, weekly process of looking at investment accounts and looking to identify small opportunities, throughout the year. It does you no favors to simply implement an investment allocation and then never to adjust it over the years and it does you no favors to implement that allocation, but not have the discipline to keep it balanced throughout the year. This results in a constant fine-tuning of clients’ portfolios as shown by several small trades throughout each month. If you want to see this in action, just look at your account statements under the transaction history.
So should I invest in the S&P 500? Let me answer this with a little more weight. Putting your investment life-savings into an index that is unmanaged, tech-heavy, and not designed for your specific goals seems incredibly risky, short-sighted, and not designed to serve your longer interests. So, no, I would not recommend it.
Additional Data: Each month I get asked by clients what additional resources I’m looking at. Please hear me in stating I’m not trying to predict anything whatsoever, just some of the interesting data I’m watching.
- Why I’m Out of Step with My Generation – I have to urge all clients to read this wonderful article from the AEI.org. This article came to my attention from a mentor of mine. It helps paint the picture of what makes the United States so unique and so great. A few selected highlights… the US is now energy independent, second largest mineral wealth, either number 1 or 2 in total arable land in a country, a big and young and educated population with about 141 million between the Millennial and Gen Z generations, and the list goes on and on.
- Federal Debt as Percentage of GDP – I think all of us will agree that Debt in this country is a problem, it’s been a problem and it’s a growing problem. This chart by the Federal Reserve puts the debt payments in reference to GDP. Helpful to put this in perspective.
- Trillions in Money Markets – At it’s highest level every reported, there’s 6.3T in money market funds, up from 6.1T last month. In the investing market, this is called “Dry Powder.” These are dollars enjoying higher levels of interest than in years past. But ask yourself, what do you think will happen when/if the Federal reserve starts to cut interest rates and banks start paying less in interest on these accounts? Do you really think people will just continue to hold their funds with less interest, or do you think they’ll look for other alternatives to make money? My guess is assuming interest rates come down, these people will start to move some of these funds back into the broader market. So what do you think would likely happen to market prices if this does occur?
- Breakeven Inflation Rate - 5-Year Breakeven inflation rate is now 2.43%. When you study this chart, you’ll see it goes back to 2004. Gosh darn close to the long-term average.
- Federal Reserve Balance sheet – For months the Fed was following through on it’s statement made in May 2022 of reducing the balance sheet by 47.5 billion per month in months June-Aug 2022, then reducing the balance sheet by 95 billion per month. But, just recently, you’ll see the balance sheet spike up by 300 billion with the new bank lending program but then a quick reversal. We’re now down to March 2021 levels and declining.
Market Truths
1. The Stock Market cannot be consistently known or timed
2. The Economy (as you define it) cannot be consistently known or timed
3. Over the past 100 years, the market has returned 10.45% (with dividends reinvested). It’d be difficult for someone to achieve this return if they did not simply stay invested. Data Source
4. The average intra-year market decline is about 14% and the market drops 15% or more every 3 years. J.P. Morgan | American Funds
5. Investing in equities has historically been volatile, my guess is it always will be, however when you consider equities (using the S&P 500 as a proxy), Real Estate, short-term bonds and corporate bonds, over the long-term, equities continue to be the historical winner. To crystallize this point, just look for yourself NYU.edu.
Market Beliefs
1. Because the future cannot be known, we must embrace the belief that the world isn’t going to end during our lifetimes, and if it does, our money doesn’t matter
2. The world has continued to advance, since well before Jesus walked the earth, so assuming the world doesn’t end, it’s rational to believe the world will continue to advance
In closing: We of course cannot control what the market does from here and we cannot predict when the next market downturn will occur. But we can control our behavior to these outside events and continue to stick with our long-term investment strategy.
As always, if you have any questions/concerns please contact me.
David Hobbs, CFP®
Wealth Advisor | Owner
Hobbs Wealth Management
Standard & Poor’s 500 (S&P 500) - a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy.
Russell 2000 – The index measures the performance of the small-cap segment of the US equity universe. It is a subset of the Russell 3000 and includes approximately 2000 of the smallest securities based on a combination of their market cap and current index membership.
MSCI ACWI ex USA – The index measures the performance of the large and mid-cap segments of the particular regions, excluding USA equity securities, including developed and emerging market. It is free float-adjusted market-capitalization weighted.
Federal Funds Rate - refers to the target interest rate set by the Federal Open Market Committee (FOMC). This target is the rate at which commercial banks borrow and lend their excess reserves to each other overnight.
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