This article was co-authored by Dean Stange.
Imagine for a minute that you fell into a deep sleep on December 31, 2019, only to wake up in these last few weeks of 2020 (Rip Van Winkle-style on a tighter timeline). When you wake up, you are told that a global pandemic has been raging most of the year, economic activity contracted by about 4%1 this year and we also went through a presidential election that is still being contested.
Although you likely would have other concerns on your mind in this scenario, suppose someone asked you: Would you prefer to have been fully invested or liquidate your investments to cash this year?
What would your answer be?
For the average investor, we don’t think it’s a stretch to guess that, only knowing the information above, their answer would be “cash please!”. Yet if you look at year-to-date market returns, this would have been the wrong answer. The global stock market is up +13%2 this year, and a 60/40 mix of stocks and bonds is up +10%3.
Reflecting over the course of 2020
We started 2020 coming off a banner year in 2019 for the financial markets. Both stocks and bonds posted positive returns in 2019. The U.S. economy was projected to grow by 2%4, unemployment was at record lows and, while we knew there was an election coming up, it was business as usual.
Meanwhile, COVID-19 was hitting China hard and was declared a public health emergency by the World Health Organization at the end of January. Global stock markets continued to hit new highs until mid-February even as we heard reports of the severe measures China was taking to lock down the regions where the virus started. The number of cases outside of China seemed to be fairly contained at that point, and we had seen this before with SARS and MERS, both of which faded away. Our news cycle was still dominated by the U.S. election and who would win the Democratic party nomination.
Over the next few weeks, the number of cases outside of China started to go up, and the stock market declined. Then we got to March, and our government placed restrictions on travel, the WHO declared COVID-19 a pandemic, a national emergency was announced, and a Saudi-Russia oil price war caused further damage. Over those weeks, the global stock market declined by over 30%5, and we saw the most turbulent period we have seen in years. Single-day stock market swings of 5% or more were common.
No one really knew what to expect. Market swings reflected the uncertainty on investors’ minds. Even typically safe high-quality bonds experienced turmoil in that time period. Talk of a possible great depression did not seem outlandish. In those few weeks, our firm had hundreds of conversations with clients reassuring them of the wisdom of staying invested.
Stimulus to the rescue
As uncertainty about the long-term future of our economy raged, the Federal Reserve took swift action to reassure the financial system by slashing rates and providing unprecedented measures of support. The U.S. government also came through with over $2 trillion of fiscal spending. From there began one of the fastest financial market recoveries in history (note the year is not over quite yet) that has led to the strong returns we see year to date.
To be clear, it was not all smooth sailing. The initial stock market recovery was uneven and concentrated in some of the largest technology stocks, with the rest of the market still negative for the year. There were many who doubted the financial market recovery and worried about the next development or event that could pivot the market back to a downward spiral.
Two of the most often voiced concerns after the summer were that a second wave of the virus in the fall or a contested U.S. election could derail the market recovery. Both of those events occurred, and the market remained resilient, escaping the volatility experienced earlier this year. In fact, positive vaccine news in November seems to have eclipsed second-wave COVID-19 surge concerns and the contested election — broadening the stock market recovery beyond large cap growth names.
The financial markets have recovered, but what about the economy?
The economic recovery has been uneven, and some of the hardest hit segments for example services industries like restaurants (that are less represented within the public stock market) are still a far cry from fully recovering. Unemployment remains very high relative to pre-pandemic levels. So, while the economy returned to growth in the third quarter of this year, the continuation of that recovery is by no means assured. A vaccine offers glimmers of hope for 2021, but we are likely not out of the woods until a vaccine can be widely distributed.
Why discipline matters
Regular readers of these letters know that we often preach discipline as an important principle of our investment philosophy. While readers generally know what we mean, 2020 has provided specific examples of why we preach it.
At the height of the fear and the bottom of the market decline in March, it would have been easy to succumb to that fear and sell out. However, we urged clients to stick with their plan. In fact, we were aggressively rebalancing accounts, which in part meant buying stock funds, for many clients in March and April near market lows. This discipline to our investment philosophy allowed those clients to recover more quickly as the markets rebounded.
We also placed thousands of trades to harvest losses throughout the year for the tax benefits. This discipline to harvest losses when they occur will provide many of our clients with the benefit of having both portfolio gains for the year (so far) and tax losses to deduct on their tax return.
Discipline doesn’t mean it’s easy
This was an extremely difficult year to be an investor and stick with a plan. Emotions and investment plans alike were severely tested by market volatility and external events. Investors have been reminded in a stark way that significant market corrections are a normal part of long-term investing. They may have even learned something about their risk tolerance and modified their plan — that’s okay!
From our perspective, it’s a year that keenly reflects the value of investment discipline. In years with normal volatility and market gains, such principles might sound old-fashioned to some. It’s in years like 2020 where we see its true value and merit.
The concerns over the economy and the pandemic will be rightly with us for some time. There is bound to be more market volatility ahead. However, our ongoing commitment to you is to adhere to our core principles, which may sound boring from time to time but are the bedrock of long-term investment success.
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Return data represent past performance and are not indicative of future results. Historical returns of indices do not reflect applicable transaction, management or other applicable fees, the incurrence of which would decrease historical performance results. Index information has been compiled by Wipfli Financial from sources Wipfli Financial deems reliable, but has not been independently audited or verified. Historical performance results for investment indices and/or categories have been provided for general comparison purposes only. Indices are unmanaged and unavailable for direct investment. Any charts and graphs represented herein are for informational purposes only and cannot in and of themselves be used to determine which securities to purchase or sell, or when to purchase or sell securities.