We feel it’s important to take a moment and address the recent financial market volatility with you and give you our take on its causes and the effect it might have on your financial goals.
There is a lot of “noise” out there right now. ISIS, Ebola, Russia and Ukraine, and an upcoming election here in the U.S. just to name a few. It’s easy to focus on this noise and the talking heads all seem to have an opinion on what these events may or may not do to our economy and the financial markets. Since 1986, there has been a lot of similar noise. Bosnia, Iraq, AIDS, Global Warming and we’ve had national elections every two years. This type of noise may have a very short term impact on financial markets, but we believe it has very little long term effects.
Market fundamentals are what we choose to focus on when planning for our clients financial goals. Let’s take a quick look at these.
Stock Prices to Corporate Earnings. Historically, stocks have been considered fairly valued (not over or under priced) when their price was 15 times the earnings per share of the corporation. (Price/Earnings Ratio). Currently the price/earnings ratio of the S&P 500 Index rests right around 15. Just before the 2000-2002 bear market the S&P 500 price earnings ratio stood at almost 30 and some individual stocks such as Microsoft had price earnings ratios of 80 or higher.Earnings are the other side of the equation, and if earnings go down, stock prices must follow and if they go up, prices have room to move forward. Our feeling is that corporate earnings are enough to justify current stock valuations.
Macro-Economic Picture. It’s important to look at the shape of the overall economy as that will affect corporate earnings. We’ve been in a recovery period of five years now, but it hasn’t been a normal recovery. Many people haven’t felt it. Even so, we are still in a low interest rate environment, unemployment is coming down and is below 6%, manufacturing is picking up and housing is recovering albeit slowly. Oil prices are low as are other commodity prices and inflation is modest. All of these signs are positive for the economy and the slow growth pattern can continue. The economy is certainly not overheating.
While the fundamentals look fine, one thing that can move the financial markets dramatically is investor sentiment and that is hard to monitor as it can swing on a dime. Since the 2008-2009 bear market, investors have been very nervous about going back into the financial markets. Those that have are continually looking over their shoulder waiting for the next train wreck. Because of this nervousness, investors react (and overreact) to any bit of news that they feel will impact the markets. Investors tend to operate with a “herd” mentality, so when the momentum gets going in one direction or the other, it’s hard to stop. It’s our belief that investor sentiment has turned negative for the most part and that is what is driving the current volatility.
We feel that the current volatility shouldn’t significantly impact your financial goals because we have tried to reduce market risk by diversifying your portfolios. When we develop the plans to help you achieve your financial goals, we know that there will be times like this and we factor those in to our projections. Many financial asset prices do not move the same way at the same time and by owning different asset categories, you can reduce the volatility of your portfolio. It’s important to have stocks and fixed income assets but it is equally important for a properly diversified portfolio to also own real estate, commodities and foreign investments. It won’t guarantee you against having a negative portfolio return from time to time, but it can lessen the severity that a bear market or a correction can have on your portfolio.
Since 1986 we have experienced the Crash of ’87, another bear market in 1989, vicious bear markets in 2000-2002 and 2008-2009, plus numerous 10% market corrections along the way. Even with that, the Dow Jones Industrial Average has gone from roughly 2,000 to over 17,000. So while the path has not been a straight line up, the trend has been up. We understand that this type of market volatility can be unnerving, and we hope you will feel free to contact us if you would like to discuss your particular situation further.
Sincerely,
Mike Berry, CFP® Linda Eden, CFP® Serenity Melnick, CFP®
These are the opinions of Legacy Wealth Management and not necessarily those of Cambridge. The views expressed herein are for informational/educational purposes only and should not be construed or acted upon as individualized investment advice. Diversification strategies do not protect against loss or assure profit.
Registered Representatives offering securities through Cambridge Investment Research, Inc., a Broker/Dealer, Member FINRA/SIPC. Investment Advisor Representative, Cambridge Investment Research Advisors, Inc., a Registered Investment Advisor. Legacy Wealth Management, LLC and Cambridge are not affiliated. Cambridge does not offer tax advice.
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