Pop quiz: Name three of the worst-performing markets or asset classes in 2013, and no cheating by looking back at past Money and Markets articles for the answer.
Here’s a hint: This is pretty much an open-book quiz, because the answers can be found in the list of best-performing markets so far this year.
I have touched on the concept of regression to the mean previously in Money and Markets so I won’t bore you with the statistical details again. Suffice to say, mean reversion is nothing more than a fancy financial term that says: What goes around comes around, in financial markets as in life.
It’s uncanny to me just how strongly markets are being influenced by mean reversion so far this year.
Performance in several key markets has completely turned around. Granted, we are only eight weeks into 2014, and much could change by year-end, but the U-turn in performance between last year and this year is striking. Let’s take a closer look.
|In these turbulent markets you should take stock of your overall asset allocation and make sure it is properly balanced, and not too concentrated in last year’s winners.|
We all know that in 2013 stocks were good, bonds were bad and commodities were downright ugly.
The Good: Most stocks …
* Dow Jones Industrial Average gained 29.6 percent to record highs
* Best-performing sector: consumer discretionary, up 43.1 percent
The Bad: Bonds and commodities …
* 10-Year U.S. Treasury Index, down 7.8 percent
* U.S. Municipal Bond Index, down 6 percent
* Emerging Market Sovereign Bond Index, down 6 percent
* PowerShares Agriculture ETF (corn, wheat, soybeans, etc.), down 13.2 percent
* Gold, down 28.2 percent (ugly)
* Worst-performing sector: Philadelphia Gold & Silver Index, down 48 percent (really ugly)
But what a difference eight weeks can make … we have witnessed a remarkable reversal of fortune this year … it’s a mirror image of 2013
The Good: Bonds and commodities
* 10-Year U.S. Treasury Index, up 4.7 percent
* U.S. Municipal Bond Index, up 6 percent
* Emerging Market Sovereign Bond Index, up 1.4 percent
* PowerShares Agriculture ETF, up 11.7 percent
* Gold, up 11.6 percent
* Best-performing sector: Philadelphia Gold & Silver Index, up 22.3 percent (very good)
* Dow Jones Industrial Average, down 2.5 percent
* Third-worst performing sector (you guessed it): consumer discretionary, down 2.5 percent
OK, there have been a few consistencies: Emerging markets were among the few stock markets to underperform last year, and continue to do so in 2014, down another 4.1 percent.
And among U.S. stocks: Health care, biotech in particular, was the second-best sector in 2013, and health-care stocks lead the pack in performance this year, up 6.1 percent.
But I can’t recall the last time markets were this topsy-turvy, with so many markets doing a complete-180 in performance from one year to the next.
So what, if anything, does this mean for your investments?
Don’t Put Too Much Stock in Performance Alone
Mind you, I’m not suggesting you rush right out and sell last year’s winners, and replace them with last year’s losers, which have become the winners so far in 2014. That wouldn’t be prudent based on just eight weeks of results. But you should certainly pay very close attention to these key trend reversals.
What I am suggesting in these turbulent markets is that you take stock of your overall asset allocation and make sure it is properly balanced, and not too concentrated in last year’s winners. Remember not to get too hung up on performance.
Too many investors are drawn to the headline performance figures in markets, and don’t spend enough time delving into the details. We are all guilty of ranking stocks, mutual funds, ETFs, etc., mainly by performance. And we’re naturally attracted to the winners; we want to tap into the big gains, while shunning the losers.
But there’s no guarantee that last year’s winning stock, sector or asset class will turn in a repeat performance this year. In fact, as the returns detailed above clearly show, often last year’s winners don’t repeat.
Remember the fine print included in every stock prospectus and mutual fund advertisement: “past performance may not indicate future results.” How true.
Trying to position your investment portfolio by recent performance alone can be time consuming, aggravating and hazardous to your wealth. Diversifying your investments among multiple asset classes and markets around the world may be a better approach, and is much easier for the average investor to mange.
In his book, The Ivy Portfolio: How to Invest Like the Top Endowments and Avoid Bear Markets, Mebane Faber shows us how a simple multiple-asset-class portfolio constructed using ETFs or mutual funds can outperform the stock market over time, with less risk. As an added bonus, you can ignore the constant noise about what’s hot and what’s not by rearranging investments a few times each year.
Impressive results can be achieved with proper asset allocation, and by systematically rebalancing your investments, mainly by side-stepping the worst bear-market declines, as the book’s title promises. Above all, by following this kind of disciplined investment process, you aren’t as likely to be lured by the siren song of recent performance.