It often feels like we’ve been spoiled in the past few years. I’m talking about those investors like myself who didn’t have to go through the panic of 2008 and have mainly ridden the recovery wave since then.
I had a few dollars in the market back then as I had just started my working career and saw my portfolio sink quite a bit as well. That was all on a % basis but dollar wise, it was nothing compared to the money I was putting into the market. I saw the decrease in share prices as an opportunity to buy more and was rewarded handsomely in the long run. Looking back, it was easy to have that reaction and make that decision when you don’t have a lot at stake to start with.
I often wonder how I would have reacted if I was well into my savings phase by then. How would my decision process change if I saw my portfolio drop from 500k to 250k in what felt like the blink of an eye. Would it be easy to just look past it and keep throwing money into the market or would I have panicked and done something else?
It’s easy to stomach market selloffs when your contributions are a huge % of your portfolio total and you’re not depending on market returns for most of your portfolio growth. When you’re at that stage of your investment cycle; the stage where contributions are perhaps 2x your actual portfolio size, seeing the market tank is great because you’re buying at such a discount and increasing your long term return.
However, it’s a completely different situation if you’re 10 years into your career having contributed 25k/year to see your portfolio grow to 500k. Seeing it drop to 250k within a few months would be stomach churning. I can see how it could make an investor feel like they’ve just wasted all that time and begin to lose faith in the stock market. Would it be as easy to continue pumping in 25k/year after having lost so much within a few months.
After all, once you hit 500k, 25k/year is just 5% of your portfolio in growth and I think most investors expect the market to return more than that annually in the long run. How will they react if the market drops 50% in the span of a few months. Can we as investors stomach that sort of move and keep investing with an eye out for the future?
I often ask myself these types of questions when I see the reactions to market moves like the one we saw on Friday and the more so the bigger ones we saw earlier in the year.
I read a lot of financial blogs and message boards in my spare time and there’s two types of reactions to these types of events that I see all the time. There’s the panicked investor who doesn’t know if Monday will be another bad day. The question they often ask is whether or not they should sell after one bad day. Then, there’s the bargain buyer who starts looking for values. This is an oversimplification of the investing mindset and there are plenty out there who have a sound outlook on it all as the ones who are yelling loudest when things like this happen are often the minority.
But even long term investors like myself, I do think we’ve been spoiled lately.
Especially those of us new to the investing game who have seen our shares ride up and up through the expansion of P/E ratios in recent years some of whom don’t really understand the ramifications of some of the decisions they make.
I’ve seen a lot of talk of 100% stocks being the wave of the future for young people but do people comprehend the volatility that comes with that type of strategy? It doesn’t seem like some of them do if a 2.5% reduction in stock market values makes them ask what’s going on with the stock market and whether they should sell?
The value seeker is another aspect of this new class. The idea that stocks will keep going up forever is one I totally believe in as a proponent of the time in the market strategy but this is a long term idea, it doesn’t work in the short term. A 2.5% short term reduction in stock market prices isn’t enough to create values. There’s 20-30% moves in individual securities on a daily basis so 2.5% in short term volatility is nothing when it comes to the grand picture when it comes to creating value. Sure, the S&P is 2.5% cheaper than it was on Thursday but it’s still 6% more expensive than it was in June and nearly 16% more expensive than it was in February.
The S&P 500 P/E ratio whether you consider it a valuable tool when judging the valuation of the market or not is still 24.62 as of Friday against a long term mean of 15.6. Maybe the high P/E is the new normal or maybe we have a long ways to fall before we reach fair valuation but volatility and days like Friday will not disappear.
This is the reality of the stock market and it’s a reality that I hope more people become comfortable with in the near term especially if they haven’t been in the market that long. The stock market is a long term game and I firmly believe that and that’s why I think that if I see my portfolio drop by 2.5% or 10% or even 50%, I’ll be OK with that because I know that will help my long term plan. It’s easy to say a 2.5% is nothing the grand scheme of things but if your portfolio is 300k then it’s $7500 “lost” in one day. If your portfolio is a million then it’s $25000 lost in one day. 25k is a full year of contributions for some people if they’re lucky and that’s not easy to stomach sometimes.
That’s why I think it’s important on days like Friday or any day where the market takes a dive and the various talking heads start talking about risk and value and other terms to think about what your portfolio means to you.
In many ways the key to long term success in the market isn’t about having the best strategy or the best asset allocation or picking the right stocks at the right time. Those things certainly help but what helps most is having the fortitude to stick it out when times get tough.
I’m not sure that some of the current generation of investors has that because we haven’t gone through anything that bad in recent memory. Sure we had Brexit and the volatility in February but it was so short lived that it maybe served to created a false sense of security. The stock market is a roller coaster, there’s ups and downs and we’ve been on the upward track for quite some time with some small dips in between. I certainly hope that continues but days like Friday are just a reminder that roller coasters do have some big falls that can be scary if you’re not ready for them and the next one might last longer than the ones we’ve seen.
My point with all this is that if the stock market moves on Friday or more importantly in June and February made you worry or lose sleep or make moves you otherwise would not have then maybe your exposure to stocks isn’t what it should be based on your risk tolerance. Proper asset allocation can certainly make a difference in how much you care about stock market moves and is probably one of the biggest drivers of your long term return unless you have an iron stomach. There’s a reason that most individual investors and even professionals have a poor track records and can’t beat the market and a lot of it has to do with emotions. It’s hard to have the guts to stick with your decision when the market is down 50% and locking in losses is a common strategy that leads to bad long term returns. That’s why index strategies work in the long run and that’s why proper asset allocation is important. They make it easier to stomach does big downturns and reduce the fear of complete loss, a fear that can really destroy your long term returns.
It will be much easier for me to deal with a big stock market move because I some buffers against that via bonds and cash. Low interest rates have made bonds a lot less attractive these days and have been drivers of a lot of stock market growth in past years but unless you expect that to continue forever then it’s good to have some exposure to them.
I know that if the stock market tanks, I’ll certainly lose some money but I’ll also have more funds to take advantage of the lower prices via my bond and cash exposure as defined by asset allocation and investing plan. I can sleep sounder at night and will be less likely to make unsound decisions like selling at the wrong time.
Yes, I’m potentially giving up some long term returns with this strategy but the piece of mind is worth it for me. Days like Friday, a very small move in the grand scheme of things do produce some worried thoughts and are a reminder why a 100% stock plan just isn’t for me.
Let’s take a look at where my portfolio stands today!
My 6 month streak of portfolio growth is over! The slight dip in the market on Friday meant that the S&P 500 return turned negative for the month with a 2.47% reduction since the last update. Following suit was my portfolio which saw a reduction of 1.22% this month.
My overall portfolio now sits at $343529.99.
The important thing to remember with months like this is that investing for your future is a long term game. Despite the reduction here, I’m still over 25% higher from the low point in February and over 17% higher from when I started tracking my portfolio size.
There’s been a lot of contributions in that time frame but the stock market has also been very cooperative especially since I lucked out with my bonus payout and large subsequent 401k contribution in February.
I’ve spoken before how I thought stocks were somewhat overvalued even when you consider the low interest rate environment.
That’s why my cash pile which has a 10% max in my investing plan but is generally nearer to 0% has been much higher lately after my individual stock sales in January. Have I missed out on some growth by keeping that much money on the sidelines? Yes, of course but my investment plan gives me the flexibility to do that when I feel like the valuations get out of hand. That max prevents me from making boneheaded moves like taking all of my money when I feel like the stock market is overvalued and then watching it grow another 10% like it has this year but it gives me some flexibility and safe/fun money when I think that the stock market gets overheated.
Earlier when I spoke how it’s easier to stomach market volatility when your portfolio is a smaller size, I spoke about the dollar totals we’re seeing. A reduction of 1.22% may not seem like much but it amounts to over $4000 lost in one month and that’s including the new inflows that were going through this months via 401k/HSA/IRA/brokerage account contributions. Seeing those kind of numbers on paper kinda sucks even if they’re after a month where my portfolio grew by nearly $14000. It’s totally true that you feel losses a lot more acutely than you celebrate gains.
My cash pile was down by just a hair under 1% this month as I purchased a few ETFs during the month. It’s still pretty sizable and makes up 9.1% of my portfolio.
My taxable accounts were down 2.8% this month. Two of my core holdings, Apple and United Healthgroup were down by more than the market for the month which drove the reduction. My contributions to taxable accounts this month were also nearly 0 due to increased expenses
Apple’s new product reveal felt rather unspectacular and if the blogs and posts on the internet are any indication then Apple has lost their innovative touch(it’s like the 8th time they’ve lost it) and are doomed to fail. The removal of the headphone jack does seem annoying as an iphone user and neither the air pods nor phone upgrade did nothing for me but I’m probably not the target market here. There are people who update on a yearly cycle and are excited about the phone as I found out the next day at work when four of the eight people in my row expressed interest in buying the new phone when we talked about it.
I think as an individual investor, it’s important to keep tabs on the stocks you invest in which is why I followed the Apple product reveal. These types of events may not seem like much but they can be primary drivers of the performance a stock and deciding factors on whether I want to keep the stock or sell it. That’s why I generally find mutual fund and ETF investing easier because it’s too much work keeping tabs on a ton of individual stocks and deciding whether or not my initial investment thesis still applies or whether I should sell it.
I do individual investing because I like the analytical part of it but I haven’t time lately to get all that’s needed done so all of my investing dollars in recent months have flown into ETFs and mutual funds.
My tax-advantaged accounts were down 0.7% as contributions mainly offset the reduction in market prices. I did have to reduce my 401k contributions yet again as I’m getting closer and closer to maxing it out before the end of the year. My company does not do a end of year true-up when it comes to matching contributions so I have to contribute on every paycheck to get the match.
Dividends in August were pretty low but September is looking like a solid month with a lot of my mutual funds and ETFs set to pay out.
My contributions towards the end of the year are also sliding as I’m getting closer to maxing out my 401k and my expenses have been higher in the past few months due to some unforeseen medical expenses(everything is good!). That means that my portfolio growth will likely slow in the next few months as contributions won’t be near where they were earlier in the year.
Let’s take a look at the asset allocation.
A reader asked last month whether the portfolio total above includes my cash because the asset allocation doesn’t show it and the answer is yes. That means that the portfolio total above of 343k includes 9.1% cash so this asset allocation shown above is based on a total invested amount of 312k.
I don’t include my cash % in my asset allocation because it is generally at 0% and only recently a part of my portfolio total due to market valuations. It’s not in my original asset allocation targets because it can often change so I choose to exclude as it not to skew things and instead treat it as additional capital within my portfolio that I can use to true up the misses in asset allocation. The goal long term is to be 100% invested when possible and not have any cash and as such the cash is not reflected here.
Market volatility will always skew results on the asset allocation side because the various security types don’t always move together.
That’s the whole point of having an asset allocation plan because it clearly shows me what’s been performing poorly or well lately and needs to be adjusted. I know I can’t predict which of the various asset classes will do well in the future. That means that I’m likely buying things that are under-priced and not putting money into things that are overpriced. This can help guide long term returns and is an easy way to decide where to put your money. That assumes that I’m at exactly my asset class targets when I start which wasn’t the case when I started nor is the case now so I still have work to do there to get my asset allocation plan to a point where it’s most useful to me. Still even now it helps guide my investment decisions and I can see which assets are under/over performing month over my month by changes in my asset breakdown.
Here’s a breakdown of where I am versus my target.
US Large Cap at 40.5% versus 42.5% target(-2%)
US Mid Cap at 10.7% versus 10% target(+0.7%)
US Small Cap at 10.3% versus 10% target(+0.3%)
US REIT at 8.8% versus 10% target(-1.2%)
International Developed at 16.3% versus 15% target(+1.3%)
International Emerging at 4.9% versus 5% target(-0.1%)
US Bonds at 8.7% versus 7.5% target(+1.2%)
I don’t even have to look at stock charts to see what happened in the latest month as I can just compare how far away from target I was last month compared to this month.
International developed outperformed the US stocks this month as we saw that target move further away from its goal despite no additional contributions. REITs were the biggest drag on performance as I was within 0.9% of my target last month and am 1.2% away now despite additional contributions.
That makes sense as the market drop was driven by a change in expectations around the fed interest rate. That will have the biggest impact on companies that depend on low interest rates as well as companies that pay dividends whose P/E ratios expanded due to lack of alternative income producing investments.
I’ve made a lot of progress to get closer to my target but I’m still not where I want to be which is to be within 1% of my target before the end of the year.
The plan for next month to get closer to achieving that goal will be:
401k contributions fully into US Large Caps
Invest additional money in tax-advantaged accounts in US REITs. Move some US bond money into US REITs as well.
Cash pile is at 9.1%. Invest in ETFs(likely large-cap) as well as any fairly valued securities if opportunities arise.
There’s still a lot of work to do but I’m already seeing the benefits of getting all my ducks in order around my asset allocation when it comes to steering new funds into specific asset classes and buying things that have fallen behind in performance and are more likely to outperform in the future.
That’s it for the September update. Let me know your thoughts on recent market performance and whether the pricing environment has you a bit skittish as well. I’ll be back in a week for a savings rate update although things haven’t looked great on that front lately so my savings rate in the near term might suffer.
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