What a Difference a Year makes
A year ago, the tone in the markets was distinctly different than it is today. There was a lot of optimism centered around a year’s worth of global synchronized economic growth and a particularly bright future for the U.S. economy as it received a significant dose of fiscal stimulus in the form of individual and corporate tax cuts. Fast-forward to today and most investment markets have lost ground from where they were at the beginning of 2018 and the outlook is predominantly cautious.
Source: Morningstar and Blackrock. All returns are taken from Morningstar and are from popular exchange traded funds that track an index for the corresponding category. Private Real Estate returns are from one of the portfolios we use. Cash returns reflect the Schwab Value Advantage Money Fund.
The above chart illustrates a clear contrast between market returns in 2017 and 2018. One point that has been made by many commentators is that in 2017 everything made money, while in 2018 cash was the only investment to eke out a positive return. We can see from the chart that there is a bit of nuance here. First government bonds were modestly positive in 2018. The exchange traded fund GOVT was up .74% over the year. Cash out-performed by about a percent in 2018. It is worth noting that in times of fear government bonds and gold tend to be the preferred assets.
Beyond Stocks and Bonds
At Cornerstone Advisory, we spend a significant amount of our time looking for investments outside of the traditional realm of publicly traded stocks and bonds. 2018 was a year where the benefits of adding this diversification paid off. As you can see from the chart above, in addition to cash and government bonds we saw positive returns from private real estate as well. In addition, our Outcome Driven income notes have continued to pay their interest payments throughout this period and the alternative lending fund that we use was up over 5% in 2018. Having these options in the portfolio helped as investment grade and high yield bonds, the traditional alternatives to equities to manage volatility risk, lost money along with stocks.
What changed?
In contrast to 2017, slowing economic growth in Europe, Asia and Latin America have given investors reason to taper their enthusiasm for risk and to seek safer investments today. Many economic forecasts have been anticipating that the next recession will likely occur sometime in 2020.
Therefore, with some hard economic data suggesting that global economic growth is already slowing and an expectation that we are closer to the next recession than from the last, investors responded by selling riskier assets in the fourth quarter of 2018. There was no fundamental reason to do this, but there was a clear shift in investor sentiment.
Uncertainty around U.S. trade policy, Brexit, economic slowdown in China and U.S. monetary policy have been driving factors for investor sentiment over the short run. In the last week of January, the U.S. Federal Reserve (Fed) indicated that it will pause on interest rate hikes and suggested it could alter its path for Quantitative Tightening of its balance sheet. For those who do not follow the Fed, both are accommodative actions for investors and the market.
This represents an about-face from where the Fed was just six short weeks ago and should be taken as a hint that the Federal Open Market Committee (FOMC) wants to be pre-emptive on any weakening in the real economy. Should we get a positive resolution on international trade between the U.S. and China in the coming weeks this would likely be a positive stimulus for the markets and certainly the global economy.
What hasn’t changed is that U.S. growth continues to sustain itself at above recent trend levels, courtesy of the tax cut. Additionally, the Asian growth engine continues to lead the world with the fastest rates of economic growth. For context, India is forecast to grow ~7.5% in 2019 by the International Monetary Fund (IMF) and China’s “slowdown” has gone from 6.6% growth to 6.2%. Their economic expansions are still underway at rates of growth that are historically above trend.
Consistency and Discipline
Our approach toward investment management also remains consistent and disciplined. Our process, put simply, rests on the principles of diversification, maintaining a long-term perspective, and periodic rebalancing. Our investment committee will continue to monitor the day’s events and respond accordingly as opportunities present themselves.
As always, if you have any questions or would like to have a conversation, please reach out to us or your portfolio manager.
The Cornerstone Team
Disclosure: Cornerstone Advisory, LLC, is registered as an investment adviser with the SEC. The firm only transacts business in states where it is properly registered, or is excluded or exempted from registration requirements. Registration does not constitute an endorsement of the firm by the Commission nor does it indicate that the adviser has attained a particular level of skill or ability. Past performance may not be indicative of future results. Therefore, no current or prospective client should assume that the future performance of any specific investment or strategy will be profitable or equal to past performance levels. All investment strategies have the potential for profit or loss. Changes in investment strategies, contributions or withdrawals, and economic conditions may materially alter the performance of your portfolio.