The Last 24 Months

It’s been a roller coaster ride for investors the last 2 years eliciting the full force of both fear and greed for many investors. With stocks worldwide1 down -25% for the year through September 2022 and predictions of a recession virtually certain and imminent, fear was widespread (in late 2022) with many investors questioning why they would want to own stocks. Now here we are with 2023 just behind us, fear has been taken over by greed fueled by stocks1 climbing +22% for the year and many investors wanting nothing other than stocks.

The Risk of Fear and Greed

It’s these wildly powerful emotions, fear and greed, that can destroy an investor’s long-term wealth. Imagine the terrible misfortune if someone reacted to these emotions, selling stocks when fear is at its peak and stocks are at their lows. Then after stocks have risen sharply, greed takes over and the investor then purchases. This is, by definition, “Buy High and Sell Low”…the EXACT OPPOSITE of what we all say we want to do (“Buy Low and Sell High”).

This market environment is a reminder of how important it is to know and understand your tolerance for risk. Without some meaningful thought and evaluation, many investors actually have a lower tolerance for risk than they realize. Investors can find themselves overtaken by fear when prices are down and make poor investment decisions by selling. They then do the opposite after prices have risen by buying. It’s this scenario that we all want to avoid by knowing our tolerance for risk, understanding what that means, and then having a portfolio appropriately designed for us. This process and knowledge most often results in investors having a diversified portfolio that will not rise as fast as the stock market alone but also should not fall as much either. The result is the emotional ability to stay the course and reap the long-term benefits the markets have delivered.

A Traditionally Diversified Portfolio of Stocks and Bonds

The market rally during the last 60 days of 2023 left stocks worldwide1 at the close of the year at all-time highs (prior month-end all-time high was 12/31/2021). All-time highs are a great thing and 2023 was a strong year but, for perspective, stocks¹ are up just +0.4% for the combined 2022 – 2023 two-year period. During the same time, bonds² remained -10.1% below their all-time highs of nearly 3 ½ years ago (prior month-end all-time high was 07/31/2020) leaving traditionally diversified investors, those that are 70% stocks and 30% bonds³, still down -2.7% from record highs (prior month-end all-time high was 12/31/2021).

The below graph illustrates the performance of a 70% stocks / 30% bonds portfolio³ over the past two years. It’s important to remember the purpose of owning bonds in most portfolios…to lower risk in the portfolio, in particular, during bear markets (investors tend to know they give up long-term performance by owning bonds but with the benefit of less risk in their portfolio). The 2022 bear market, therefore, was a particularly rough ride for investors in such a portfolio because it was one of the rare bear markets for stocks when bonds also fell sharply in value. The result was a decline of -21.5% at the lows before mostly recovering by the end of 2023.

A Super-Diversified Portfolio

Super-Diversification⁴, a portfolio that is roughly 51% investments other than stocks and bonds, held up very well during the 2022 bear market but lagged behind in 2023. This 2023 performance is typical during periods when stocks rally off their bear market lows as they did from October 2022 and into 2023.

The full two-year cycle, all of 2022 – 2023, is a great illustration of the value of Super-Diversification⁴. The added diversification in the portfolio substantially reduced losses during the bear market with Super-Diversification⁴ off just -13.9% at the lows while during the same time the 70% stocks / 30% bonds portfolio³ was down -21.5%. This performance is just as designed and expected.

The same can be said for 2023. When the stock market rallies off its lows, Super-Diversification⁴ is simply not expected to keep up with a traditional portfolio³ that has a much larger allocation to stocks. This is a good reminder of two things we must accept as investors, 1.) we never know when the bear market will turn into a bull market and 2.) that there is no perfect portfolio that performers best in every market environment.

My Goal for Investors

My goal is that we deliver great long-term performance. Super-Diversification has proven to do that through both long bull markets and bear markets. This is by design, built on math, supported by research, and positioned to continue delivering great long-term performance.

Disclosures

¹Stocks are represented by the Vanguard Total World Stocks ETF (VT)

²Bonds are represented by the Vanguard Total Bond Market ETF (BND)

³Traditionally Diversified Portfolio and 70% stocks / 30% bonds Portfolio: 70% allocation to the above reference VT and 30% allocation to the above referenced BND; assumes monthly rebalancing, no trading fees, no advisory fees.

⁴Super-Diversification and Super-Diversified Portfolio: Super-Diversification Flex Growth Strategy. Click here for specific details on the performance data. Some clients are Qualified Clients as defined by the SEC and may pay a performance-based fee.