Market Update

In light of recent global and market events I thought it necessary and timely for an overall update.

As I write this               Quarter to date

S&P500 (cdn$)                -3.677%

S&P TSX                              -8.996%

Gold                                     +7.56%

Bond index                        2.514%

MSCI EAFE (cdn$)          -4.472%

Markets are obviously quite volatile, and the above demonstrates the importance of a portfolio well balanced between cash, income producing investments, and ownership of good companies for the long term.

What it also leads to is thoughts about investor behaviour.

More so the “predictable irrationality” of investors.

consider the picture below:

 
 
 In the past these cycles of emotion played themselves out over longer periods of time. 

Today, with the ability to transact and “act” instantly, we see knee jerk short term reaction (both positive and negative) in much shorter time spans.  This can lead to inappropriate action on behalf of an investor.

We are in the midst of one of these short term “nauseous” moments.

Pick your reason:

Greek Debt

Political instability in the middle east

Housing crisis in the US

Chinese inflation leading to reduction of monetary stimulus and demand for commodities falling

Canucks losing the cup

OK, perhaps the last is stretching it, but you understand my point.

These macro issues will pass. 

Many corporate balance sheets, however, are stronger than they have been in years.  In fact, in light of recent share price declines, and the persistence of some investors to “throw the baby out with the bathwater”, there are opportunities to own these companies at a discount.

The key is sticking to your investment policy statement and YOUR longer term portfolio goals.

This is NOT a sell opportunity.  It may be a BUY opportunity.

Remember:  humans persistently over react on the upside and the downside.

Our domestic market, for example, is very correlated to the price of oil.

consider the following charts:

The first shows the positive correlation to our overall market and the price of oil over the last 6 months.

This reminds investors who simplyown the entire index how strongly influenced by energy our overall stock market is.   

The second chart overlays the bond index with the S&P TSX. 

This highlights the importance of an overall asset allocation strategy.  Notice the lack of correlation between equities and bonds.

Your overall asset allocation will determine the majority of the volatility you experience in the value of your portfolio on a monthly/annually/longer term basis.

For example, if you are 80-100% equities, expect to drop in equal measure to the markets during short term sell offs.

Through my analysis going back to 1970 of asset class combinations, by holding 45-60% equities in a portfolio you will greatly reduce short term volatility without a major reduction in longer term portfolio performance.

Therefore you need to focus on the amount of :

cash

income producing investments

good quality companies and/or managers

in your overall portfolio and adjust your asset mix regularly.

Do not, however, reduce your exposure to asset classes in your portfolio that have reacted negatively in the short term. 

“Be Fearful When Others Are Greedy and Greedy When Others Are Fearful” – Warren Buffett