23 Jan Bridge Perspective – January 2023
A Peak Into the Past for Some Insight to the Future?
As we open the chapter to another year, many of us are wondering if the S&P 500 will experience another negative year, for a second year in a row. Since 1928, this has occurred four times. The time periods were 1929-1932 (The Great Depression), 1939-1941 (World War II), 1973-1974 (Oil Embargo and Inflation), and 2000-2003 (Dot Com Crash). It is interesting to note, “The Great Financial Crisis” of 2008 only had one year of negative returns. In 2009 the S&P 500 was up 26.46%.
If you were approached at the start of 2020 and told what would happen over the next three years, would you have wanted to invest in stocks? As we consider the past three years, we must quote Mark Twain “Truth is stranger than fiction, but it is because Fiction is obliged to stick to possibilities; Truth isn’t.”
Despite a down year in 2022, if you had held all the stocks in the S&P 500 Index for the full three years, you would have earned a cumulative return of nearly 25% with an average annual return of almost 9% (18.39%+26.68%-18.11%/3 = 8.98%). That’s a deal many investors would have likely accepted. If we give too much importance to a single year, we may feel that today’s picture is bleaker than the reality for a long-term investor. One year really is a short period of time in the context of an average investor’s investment horizon. Further, we can take some comfort in knowing that markets have overcome many tough times in the past and, over the long-term, have played an essential role in helping investors achieve their long-term investment goals. Taking account of the longer three-year period helps to remind us of this. Another perspective to keep in mind is the S&P 500 index which represents 500 of the largest U.S. companies does not represent a globally diversified portfolio. The “lost decade” which ran from 2000 to 2009 saw the S&P 500 index experience a cumulative return of less than 1% and is a reminder as to why a globally diversified portfolio is so important. The MSCI ACWI IMI Index represents large, mid-size and small companies across developed (U.S. Europe, Japan) and emerging (Asia, Latin America, Middle East) markets, and is a more relevant benchmark for the equity (stock) portion of investor’s portfolios. In 2022 the MSCI ACWI IMI Index finished down 18.40%. In 2021 it was up 18.22% and up 16.25% in 2020, giving it a three average annual return of 5.35%. Again, if you were approached at the start of 2020 and were told what would happen over the next three years, would you have wanted to invest in stocks?
Equity and Fixed Income Markets in 2022
Global stocks and bonds ended 2022 in negative territory. The MSCI All Country World IMI index and the S&P 500 index were down slightly more than 18%. International Developed markets were down 15% and International Emerging Markets were down almost 20%. With the exception of the energy sector, globally all sectors were negative in 2022. For the S&P 500, the only positive sectors were the energy sector and the utility sector which was slightly positive.
A potential new trend which we are watching carefully was the strength of the U.S. dollar in 2022, which rose over much of the period of rising interest rates. Beginning in the fourth quarter of 2022 the U.S. dollar has begun declining, helping the MSCI ACWI (All Country World Index) outperform the S&P 500 in the fourth quarter and so far this month (as of the timing of this writing).
When looking at the real estate sector, we saw a sharp selloff in both the S&P Dow Jones US Real Estate index and Global Real Estate index which were both down 25% in 2022 after rising over 30% in 2021. Commodities were really the only shining star of the equity markets in 2022, in which we saw the S&P GSCI commodities index return 25.99%, fueled in part by the war in Ukraine and global supply constraints.
2022 was a rare year for the Fixed Income markets. Historically, bonds have provided some protection against declines in the equity markets with investors buying bonds when selling stocks. Last year, however, the Bloomberg U.S. Aggregate Bond index was down 13% and the Bloomberg Global Aggregate bond index was down 16%. For further context, since 2004 the lowest annual return for the Bloomberg US Aggregate Bond index was -2.15%, and 2022 was the worst combined stock and bond market performance on record. The inflation created by the Federal Reserve’s massive infusion of funds into the markets, supply constraints, and increased consumer demand starting in 2020 certainly punished bond holders in 2022. Despite this painful pricing reset, most fixed income price declines appear to be behind us and are now providing investors with a more normalized interest rate environment. Interest rates on short-term bonds such as the 6-month US Treasury Bill are now yielding around 4.8% as of the time of this writing.
A Few Thoughts for 2023
While we will likely face many of the same risks and uncertainties of 2022, we do now have an opportunity to invest in many low-risk assets like short-term Treasury bonds and money market funds yielding north of 4%. It does, however, remain to be seen how far the Federal Reserve will go in its campaign to curb inflation, how long higher inflation will linger, how these higher interest rates will affect consumer spending and company earnings, how the war in Ukraine will play out, and what will result from China’s shift away from its zero-COVID policy. The level of support the Federal Reserve provided to the markets and our economy in 2020 and 2021 was unprecedented, and the withdrawal of this support and its effect on the markets is a significant unknown. History does offer some perspective, though, for investing in tough times. We can likely expect more volatility in 2023 because it tends to persist and takes time to dissipate. This may test the commitment of investors to remain invested. Still, we shouldn’t forget that the market has already priced in lower expectations, and valuation ratios are more attractive than they were a year prior. If we consider previous periods when economic uncertainty was high, we’ve seen that the market has historically rallied well before those uncertainties subsided — once light appeared at the end of the tunnel and signs of improving conditions were apparent. The lesson here is that markets react quickly when good news appears and staying in the market is the only way to benefit when it does.
NOTES AND DATA SOURCES
- Article adapted from Avantis Investors Monthly ETF Field Guide
- Article adapted from Dimensional Equity Market Overviews as of December 31, 2022, and Market in Review 2022.
- Historical S&P 500 returns source: macrotrends.net/2526/sp-500-historical-annual-returns
- MSCI AWCI IMI data from https://www.msci.com/our-solutions/indexes/acwi
- Indices are not available for direct investment. Their performance does not reflect the expenses associated with the management of an actual portfolio.
Bridge Advisory LLC Disclosures
Bridge Advisory, LLC is an investment adviser registered with the U.S. Securities and Exchange Commission. Investment Advisory Services offered through Bridge Advisory, LLC.
Content intended for educational/informational purposes only. Not investment advice, or a recommendation of any security, strategy, or account type. Past performance is not a guarantee of future results. Indices are not available for direct investment. Index performance does not reflect the expenses associated with the management of an actual portfolio. Information herein has been obtained from sources believed to be reliable, but Bridge Advisory, LLC. does not warrant its completeness or accuracy; opinions and estimates constitute our judgment as of this date and are subject to change without notice. This newsletter expresses the views of the authors as of the date indicated and such views are subject to change without notice.