Should recent market performance be your overwhelming focus?

By Stephen High

For those who watch the investment markets, the first half of 2012 was a strange and harrowing experience. The first four months of the year saw American stocks, in aggregate, grow by almost 10 percent, building on one of the best January performances in history. Then came May, when the Wilshire 5000—the broadest index of U.S. stocks—gave back 6.22 percent of its value. June was a muddle until the final day of the month, when the Wilshire 5000 gained back 2.53 percent in a single trading day and essentially saved the quarter. On the same day, the S&P 500 gained 2.49 percent and the NASDAQ exchange was up 3 percent.

This kind of market gyration combined with the disquieting threat of potentially rampant inflation, private-sector losses, bank failures and similar repercussions across Europe and beyond could drive even the most resolute among us to “fight or flight.” Small wonder that our inner caveman, driven by those instincts, is tempted to stockpile gold or cash (or arks) in a rising flood of doubt. One recent academic paper observed: “Events in the Eurozone, particularly Greece’s future participation in the currency union, have been the overwhelming focus of investors worldwide in recent months.”

But should it be your overwhelming focus? We remain convinced that this is another one of those times when giving way to those basic instincts is more likely to hurt your wisely managed personal wealth strategy than help it. The sharp turns in the market—down in May, up on the last day of June— are not driven by any change in the intrinsic value of stocks, or any interruption in the actions of millions of workers who are daily building stronger, more profitable businesses throughout the global economy. The lurches of the roller coaster represent emotional responses by skittish investors who want to jump into or out of the markets based on headlines that overstate the case on the upside and the downside. Rather, we remain convinced:

By trusting Kraft Asset Management, LLC to help you maintain your low-cost, passively managed, globally diversified investment portfolio according to your personal, long-term goals and risk tolerances, you already are doing as much as you sensibly can to build or preserve your wealth against rising risks — today or tomorrow, domestic or abroad, real or perceived.

For those of you whom we have served for a while, this probably sounds repetitive. Actually, we hope it does because one of our most important roles as your advisor is to remind you of these evidence-based truisms for steadfast investing. We remain steady in our convictions because they are founded on fully-vetted academic research rather than emotion and gut feeling. We craft plans (and portfolios) that are tailored to your unique situation, to help you achieve your individual goals. So, while we’re always alert for opportunities to enhance our fundamental wealth management strategies as new academic research becomes available, there remain a few, basic overriding principles to keep in mind:

• Stick to the plan. As the aforementioned article on Greece observed (and we agree): “It is what happens next that counts — and no one knows the answer to that question. So our approach remains the same.” We cannot predict what the second half of 2012 will bring, any more than we can predict what the weather will be at a certain date in October or December. Remaining steadily invested and paying as little attention as possible to the shrill voices of frantic media outlets has been a solid strategy so far this year and has generally worked out well for investors over time.

• Think in the historical context. Every economic crisis is unique, but crises of the current fear-inducing magnitude are decidedly nothing new. A recent blog post by finance author Larry Swedroe on CBS MoneyWatch notes that investors have faced more than 15 major crises during the past 40 years or an average of a crisis every 2 ½ years or so. Many are now long forgotten, and we’ve made it through every one of them to date. Historical odds remain in favor of sticking to a plan.

• Diversification is your safety valve. We routinely advise our clients to temper any riskier investing (and commensurate higher expected premiums) with global diversification. It’s why our equity funds with European holdings have been, and remain, broad in scope. For Greece in particular, we have no exposure to Greek government debt, as Greece is not eligible as a source for any portion of the fixed income funds we use in client portfolios. Likewise, exposure to Greek stocks in the international equity funds we typically use is minimal, and no further stock purchases in that country are being made, for the time being.

• The market is too smart to outsmart. This one is so important, yet so easy to forget: It does not matter whether the next news bulletin is good or bad. What matters is whether it is better or worse than expected. That’s how the markets set prices — and they do so lightning-fast, well before we can expect to profitably trade on the news. A good, real-life illustration is Moody’s recent 15-bank downgrade. How did stock prices react to the negative downgrades? As reported in RIABiz, “There was no immediate market response. … It was a ‘ho-hum’ event for all but the reporters assigned to cover the news.” What might have been big, negative news turned out to be a non-event because it was better than, or at least comparable to, what the markets had already anticipated and reflected in trading values for some time.

The second half of 2012 will inevitably bring us more surprises. It will force us to remember that we are not investing in current events. Rather, we are investing in the far more mundane, yet more significant day-to-day work and effort of the people who get up each morning and contribute to our global economy through the growth of their own businesses—the companies in which we, together, are invested.

In the meantime, please call us if you have any questions or have had any changes in your personal situation.