 We’re coming up on the time of year again when everyone loves to put out their predictions on what the market will do in the upcoming year. Lets face it though- forecasting is a form of marketing. Plain and simple. This is what creates headlines and attracts eyeballs. At the start of 2023, 85% of economists polled by the Financial Times predicted a recession within a year. The so called ‘experts’ at Goldman Sachs predicted the market to be flat in 2023.  https://www.goldmansachs.com/intelligence/pages/us-stocks-are-forecast-to-have-less-pain-but-no-gain-in-2023.html The market however just finished the year +25%. The media, investors, and the general public are naturally drawn to forecasts that make compelling claims about the future of the market. By presenting a confident outlook on the stock market, these investment firms aim to convince investors that their expertise can lead to profitable outcomes. However, these forecasts have often times been far from accurate. Heading into 2022, Goldman predicted the SP500 to be up +9%.  https://www.reuters.com/business/goldman-sachs-forecasts-modest-rise-sp-500-index-2022-2021-11-16/ Yet, we all know what happened in ’22…. The market was down -19%. The point of this is not to call out Goldman for how wrong they were, but to prove how difficult it is to make predictions about the future, especially as it relates to short-term movements in the stock market. When stocks fall, our emotions make us think they will fall even further. And when stocks rise, our emotions make us believe they are going to rise even more. If you’re an investor, you should be thinking out decades or at least multiple years. This is why it is better to plan then to predict. PLAN - DON'T PREDICT Plan for the unpredictable. Plan for what can happen, rather than try to predict what will happen. Portfolios constructed properly are built to withstand times of volatility The process of setting an asset allocation is to balance your time horizon and risks as an investor. You don’t have one asset allocation for a bull market, one asset for a bear market, and one for inflation/ deflation and rising rates, falling rates. You should be looking at the long term returns for different asset classes. It is important to have a diversified investment strategy that acknowledges the unpredictable nature of financial markets. If you take a look back at the post from last year How Do Markets React to Pullbacks?, it referenced how markets have historically responded to pullbacks exceeding -20% (as we experienced in '22) . The post, from the end of '22, showed that the average 1 year return after such a pullback was +21%. While it was hinting at that it was a great buying opportunity, it was not forecasting/ predicting what the market would do. It was not a foregone conclusion that stocks would rally this year as much as they have. It could have gotten worse if inflation stayed high or we went into a recession ... or if some other risk came out of left field. Regardless of the outcome, this is a good lesson in the power of staying the course as an investor. If you’re an investor, you should be thinking out decades or at least multiple years. Staying the course means going against your own emotions at times. Unfortunately, doing nothing is hard work because markets are constantly tempting you to make changes to your portfolio. Smart investors know its hard to predict the upcoming market conditions. The key is to prepare and plan for a wide range of outcomes so that short-term market changes don’t impact your decisions. If you're interested to see what they're forecasting for 2024:  https://www.reuters.com/business/finance/goldman-sachs-sees-sp-500-hitting-5100-2024-boosting-forecast-2023-12-18/
Take it with a grain of salt... as we know markets are very unpredictable.
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 What does it take to be a good long term investor? When it comes to the public markets, it is nearly impossible to be able to time the market consistently. The same goes for being able to consistently outperform the market by choosing individual stocks to beat their respective indices. That is why it essential to focus on what you can control. The three biggest drivers of investment success in the long term are: Limiting Costs, Diversification, and Investing with an After Tax Bias. LIMITING COSTS When investing in securities, there can be different costs that are associated with ETF’s and mutual funds that most often times go unnoticed. It is very important to limit the costs investors don’t always see. Expense ratio- This is the percent charged by a fund for administrative and other operating expenses. Turnover ratio- how frequently the fund trades You don’t see these costs, but (all else being equal) this is coming out of your take home return. To put this into perspective, you could use the analogy of a 100 yard dash. A fund with a high expense ratio would be like starting 10 yards behind the starting line. In this instance, the runner is now forced to make up all that extra ground in performance just to finish even. The same goes with investments that carry high costs- they need to make up the difference in return by outperforming lower cost funds. Funds with high turnover ratios are like running that same 100 yard dash with a parachute on. These funds ‘create drag’ because of all the frequent trading that takes place and incurs extra costs. This drag within certain funds can significantly impact performance, just as it would with a runner competing and trying to keep up in a race while running with a parachute on. THE VALUE OF DIVERSIFICATION It’s a saying we’ve all heard since our early childhood- “Don’t put all your eggs in one basket.” This is the same when it comes to investing and what diversification is in its simplest form. The same way a GM wouldn’t construct a baseball lineup with all 9 hitters that are of the same skill set, a portfolio should not be constructed in a way that all investments are alike. There is a certain role for a leadoff hitter, vs the role of 2nd, 3rd and 4th hitter in the lineup. They usually have different strengths and weaknesses, and they usually hit different types of pitchers differently. The same goes for the different securities within your investment portfolio. Each investment in your portfolio should have a different role. Diversification can dramatically reduce your risks without reducing your expected returns.  Take a look at the above graph showing a sample portfolio and the risk/ return of each security. Each security has a specific role within the overall portfolio construction. It is good to invest in uncorrelated assets to reduce your risk-to-return ratio because the different securities don’t always move in the same direction. By diversifying among different asset classes, countries and investment styles you are able to reduce your risk by more than you reduce your expected return. INVESTING WITH AN AFTER-TAX BIAS IN MIND Its also very important take everyone’s tax situation into account when it comes to investing because its about one's AFTER TAX Return. This is the amount that actually goes into your pocket. Taxes account for a 2% annual drag. As I mentioned before, this drag is like putting a parachute on your investment returns. While this might be a good training technique for sprinters, no one wants this drag taking away from their take home returns. Every time you sell and realize a short term capital gain, it is adding extra income taxed as ordinary income. This means for tax payers in the highest tax bracket, they’re paying 37% on these gains. That means theyre losing almost half of what their gains are. Whenever possible, AVOID selling any Short Term Capital Gains. This gain gets taxed as ordinary income versus preferential tax treatment that long term gains get taxed at. Tax Loss Harvesting Tax loss harvesting is the use of investment losses to offset short-term capital gains, long-term capital gains, and even ordinary income taxes. By using capital losses, investors can lower their current tax bills and defer capital gains, helping you keep more of what you earn. So, if you had $20,000 in capital gains and were in the 15% capital gains tax bracket, you would owe the IRS $3,000. However, if you could sell enough other assets to properly generate $20,000 in losses, this would negate your $3,000 tax bill. A successful tax loss harvesting strategy should generate a tax loss in the short run without generating an actual monetary loss in the long run. The strategy involves buying an “alternate security” that behaves similarly, but not identically to the original security. We do this to generate a tax loss without changing your exposure to the underlying asset class. These are a few things to keep in mind when investing for the long term. Remember, it's not just about what you make, but also what you keep. There are a lot of uncertainties we are dealing with right now (just like every bear market) Everyone is wondering: “How much longer will this last?” “How long will it take to break even?” “How much worse will this get before it gets better?” As of last Friday (September 30th) The S&P 500 was down -25%. As Ben Carlson points out, this was the 9th time since 1950 that the S&P 500 has been down -25% or worse in a bear market. Of these times, many of them have been severe and unprecedented -COVID 19 Pandemic -Great Financial Crisis -Dotcom Bubble -Recission of 1982 In all of these instances the SP 500 did continue to fall further. But what were the returns like every time after we’ve experienced a -25% dip? These are the forward one, three, five and ten year returns from down -25% over the past 70+ years in the S&P 500:  -The average 1 year returns have been over 20%. -The average 3 year returns over 40%, -The average 5 year over 80 and average 10 year over 200%. These returns are exceptionally good. There was only one down period over 12 months after a -25% pullback. Now could stocks fall another 15%? Yes of course. But do you really think that stocks won’t be higher in another year or 3 years later? If you don’t believe that… you probably shouldn’t be investing in equities in the first place. RETURN TO ALL TIME HIGHS (THE “LOST YEARS”) The market peaked earlier this year in January and obviously there’s no telling when we will get back to those highs. Everyone is so concerned that this could be the time where it takes years down the road to get back to these all- time highs. Okay… so lets say that is the case. Lets just hypothetically say we don’t get back to these highs within the next year or two.. What does that mean for the market returns if the next market high is prolonged multiple years? -If it takes us 4 years- it would mean we would experience a 9.4% compounded annual return -If we do it in 3 years- it would be 12% -5 years….8% compounded.. While it feels like we would only be clawing back to get where we once already were… it means that along the way, we would be experiencing good equity returns. We have to have a forward looking view. And what this shows us is that even though these times feel terrible and there’s a chance it could continue to get worse, we’ve actually already experienced a bulk of (if not the majority) of the hit. It would be nice if we did have a crystal ball and could time exactly when to get in and out of the market. That’s shown not to be case, as no one is able to do it consistently over time. What we do know though, is that after pullbacks like this, stocks have higher expected returns and tend to outperform their average. It is important to stay the course and understand how the money you have invested ties into your overall financial plan.  When it comes to your money, there is a big difference between having an investment portfolio, versus having an investment plan. A portfolio involves buying securities, and other types of investments. Often times, it is a bunch of these investments randomly thrown together to make up your overall allocation. A plan involves creating a decision-making structure to help guide your actions. This allows you to follow a certain process when there are different changes in the market. An investment plan is the blueprint for helping an investor reach their goals given a certain risk tolerance. The recent market correction has provided a great example of how getting rich overnight is not easy and it is not normal. Speculative investments have been taken to the woodshed recently. (Think of the Robinhood day traders you heard about in the last couple years who made a fortune holding concentrated growth / tech stocks). Much like hitting the lottery, holding these concentrated positions can make you wealthy, but it can certainly make you poor very quickly. Most people can and should build wealth slowly. Read It’s Ok to Build Wealth Slowly https://awealthofcommonsense.com/2021/01/its-ok-to-build-wealth-slowly/ from last January addressing the FOMO (Fear of Missing Out) in all these (Get Rich Quick schemes) during the pandemic. It’s times like these where it pays to construct an asset- allocation mix that is balanced to do well over time, while also being protected against unacceptable losses. PERSPECTIVE Of course it may seem like the world is falling (as it does in any bear market), but it is important to put things in perspective. Despite a global pandemic, highest inflation rate in 40 years, and 2 bear markets…. The S&P 500 is still up 19% since the start of 2020. We’ve had all of this going on, yet the market is still up almost 20 percent over the last two and a half years. People don’t view it this way, but it is sometimes smart to temper expectations. It’s even more important to ask yourself if your goals and circumstances have changed enough to force a change to your portfolio? A change in expectations doesn’t always require a change in strategy. You have to figure out whether you’re looking at the long term process or short term outcomes. A baseball hitter doesn’t suddenly make drastic swing changes in the middle of the season after a bad week or a couple bad games. This would be irrational. It is a 162 game season. Instead, it is best to figure out what stance/ swing puts you in the best position to excel and succeed over the long term. The same goes with investing. Give yourself the best chance to succeed in your long term investment plan and meeting your goals REGARDLESS of the economic environment. Let your plan be your blueprint for what you’re trying to accomplish with your money. Your goals and risk tolerance drive your investment allocation…. not a forecast or prediction on the economy.  In theory, anytime there is a pullback in the market like we’ve been experiencing, it can be a good time to buy. This is because equities are selling “on sale” or “at a discount”. While it never feels like a smart time to buy with all of the fear and bad news going on in the market, it is important to look back at history and the evidenced based data. Going back to 1928 (94 years), 59% of those years, the SP 500 had a double-digit drawdown at some point during the year. That means that roughly two thirds of the time, you’re going to be down at least 10% at some point in the S&P 500. -58% of those years, when we’ve experienced a double digit drawdown, the S&P 500 has still finished the year with a POSITIVE return. -40% of those years, you would have still finished the year UP DOUBLE DIGITS.  Just as we’re seeing now with the current environment (Fed raising rates, inflation, etc) all of these other corrections in the past, didn’t happen for no reason. There was the same pessimistic and worrisome view of the market. But things eventually get better. So is the S&P 500 going to finish down -30% this year, or up +5%.....??? NO ONE has a crystal ball. But if you’re looking at the data, the odds are more likely to finish up. I know stocks could fall even further from here. Things could always get worse. But if you are a long term investor, stocks are on sale. HOW TO DO IT It is important however to differentiate if you are buying individual companies, or the market/ index as a whole. There is a big difference between buying an individual company that has declined a lot and buying an index that has declined a lot. There is no guarantee that the individual company will ever recover. Individual stocks come and go. As Nick Maguilli points out, since 1950, 28,853 companies had traded on US Markets, but by 2009, 78% of them had died out. It is estimated that roughly half of all public U.S. companies in existence today won’t be in existence in 10 years from now. They will either merge, be acquired, go bankrupt, or find some other way out of the market. Take Netflix for instance – it is currently down -70% YTD. While there is a chance Netflix can reach new high’s, there is also a chance that it will never get back to that level- or even worse, that it slowly declines and dies out. However with an index fund, assuming the world is not coming to an end, the probability of the S&P 500 never recovering from a crash is quite low. Since January of 1995, 728 tickers have been added to the SP 500 while 724 have been removed. This is why the stock market is hard to beat. Indexes can seem very plain and vanilla, but they are tax efficient, low cost, and they hold the winners and let go of the losers. For example, if you own an S&P 500 index fund, your underlying holdings will change based on the work done by Standard and Poor’s research teams. If they decide to add or remove a company from the index, you will automatically add or remove that company from your holdings as well. This is much different than owning a lineup of individual stocks. STICKING IT OUT If you build your portfolio the right way, you know it is built to withstand market corrections and crashes. It is also smart to build these corrections into your expectations so they don't sting quite as bad. You can’t expect everything to go up all the time- this is how risk & return works. While times like this with high market volatility can be unnerving, it is important to stick to your plan and remember why you’re investing in the first place… To build long term wealth. For an investor, when markets pull back, it is an opportunity to buy at lower valuations, higher dividend yields, and lower prices. Ray Dalio said it best in his book Principles – ‘Making a handful of good uncorrelated bets that are balanced and leveraged well is the surest way of having a lot of upside without being exposed to unacceptable downside.’ There is always a lot of “noise” out there when it comes to investing and the stock market. Whether its headlines in the news, a conversation with your neighbor, or your wife telling you what she heard from her friend at work, there is always a lot of chatter going on. Everyone has that friend that loves to tell you about when they go to the casino and win big. But how many times do they ever tell you about the losses they’ve had? Probably not often. This is because everybody loves to tell you about winning. The same goes with investing. It is always very easy to fall into the trap of listening to it all and trying to ‘outsmart’ the market by market timing. It is important that we block out this noise though, because we need to rely on the data and remove emotion from the equation. When people follow their natural instincts, they tend to apply faulty reasoning to investing.  While at times, it may seem obvious that market valuations are high and that we should try and ‘outguess’ the market, all of the data shows that this is not a good idea and ultimately just takes away from your return. Investors lose an average of 3% per year in returns due to emotionally-driven investment decisions. If it could be done, people would do it consistently. This is NOT the case. Even with professional managers (people who specialize in trying to outperform their respective benchmarks), there is no evidence that it can be done reliably. In fact, 90% of active portfolio managers are beaten by the index over 15 years. It's not impossible, but it’s like finding a needle in a haystack in doing it consistently. The rules of investing are a complete 180 degrees from the rules of everyday life. Generally, if you want more of something, you do MORE. -If you want to be stronger, you lift more weights. -If you want to be smarter, you read more books. But being a successful investor is very counterintuitive. In the market, if you want bigger returns, the data shows, it is better to do less. Think of it like a bar of soap, the more you continue to move it around, and the more you do with it, the less soap you end up with. STAYING IN YOUR SEAT The stock market can unexpectedly deliver large returns in short windows of time. Although we like to predict when this will take place, no one knows exactly when these returns are going to take place. No one has a crystal ball. This is much like leaving your seat at a sporting event just before a scoring play. To catch the action, investors must stay in their seat. When we “get out of our seats” and miss out on the big plays (good market returns) it can drastically impact overall performance. Take this year for instance – in the chart below, you can see the effect it would’ve had over the last 30 years if you missed out on only a few of the best days in the market.  The latest headline or crisis of the day might leave you feeling anxious or nervous. As shown above, reacting to the emotions can hurt performance. I sometimes think it can be helpful to think of it like a roller coaster in times like this. Follow the rules, stay in your seat, and if you don’t give up on your plan, you’re far more likely to have a successful investment experience. Take this year for instance - back in March, the market was down 38% at one point. Now it is up 6%! There are a lot of things that can cause this anxiety during these times of volatility, especially because of the headlines. The ups and downs come, but you keep moving forward. In the moment, it always seems like a major deal, but history shows that it will pass. It’s a good exercise to look back and remind yourself what the crisis was 1, 3 or 5 years ago. Rarely, people can even list it off. Yet, in the moment, it seems as if it’s the biggest deal in the world and can get people pretty charged up. (US debt downgrade, Brexit, China tariffs) But if you look at what took place in the markets over the last 10 years, it has been a very good run. People do not check the price of their house every day. Not even monthly or yearly for that matter. Why? Because they’re not going to sell it since they know they will be in it for a long time. You know you’re not going to sell your portfolio every day. For that matter, you are probably not going to sell it monthly, or even on annual basis. So why check it routinely and overreact? If you are investing in short-term returns, that is essentially the same as gambling. A disciplined investor looks beyond the concerns of today to the long-term growth potential of markets.  When you try and time the market, you have to make two right decisions, when to get in, and when to get out. And you have to consistently get it right. OVER and OVER again. Suppose you’re even able to guess right on market timing 70% of the time. Since you must do that a second time when getting back into the market, your odds are now less than 50% of getting them both right.
The positive news is that investors don’t need to be able to time markets to have a good investment experience. Over time, capital markets have rewarded investors who have taken a long-term approach and have remained disciplined in times of market volatility. It is most important for investors to focus on the things they can control (like having an appropriate asset allocation, diversification, and managing expenses, turnover, and taxes). KEY TAKEAWAYS -Remove emotions from investments -Rely on the data -Have a long-term mindset -Tune out the noise Like in most election years, people are very passionate about who they support and who they want to win. This year is no different as people’s emotions are running high. They also have strong opinions on what this will mean for the economy and stock market. It’s okay for us to feel the way we do because that’s what makes us human. It is perfectly normal to address these emotions, but we also need to realize that people can make costly mistakes when making decisions clouded with emotion. That is why it is extremely important to remove emotion from investments, and to make practical decisions based on real data. Rather than promote one particular party or platform, this is being written to provide evidence-based data. What have we seen from other elections that can give us perspective? We always hear that markets don’t like uncertainty, so let’s look at other election years to see what it’s meant for the markets:
Think of when you throw a rock into a pond. The ripple is very big where the impact is, but as you move away, the ripples become smaller and smaller and then after time, you start to no longer see them. Investing in the stock market is the same and should not be reflected in days, or weeks but more so a LONG-TERM APPROACH. Certain ideas sound good conceptually (like moving to cash for the short term, buying certain stocks based on the winner of the election) but they are not usually the best idea. Markets have already adjusted accordingly. If you are thinking of moving money out, this is the easy decision. But then you have to choose when to also invest again. The stress of being in the market is essentially just being replaced by the stress of being out of the market. This is why having a financial plan in place is essential. Your financial plan should be built to survive times like this. Having the education about the way markets work and a financial plan in place, is the bedrock in withstanding temporary setbacks. Republican vs Democrat- Does it actually matter for the stock market? Average annualized returns show there is no apparent pattern whether republicans or democrats are better for the stock market. Whether or not the stock market goes up or down is more heavily determined by other outside factors. Take a look at George W. Bush. He walked into office right as the Dot Com crisis was about to unfold in 2000. September 11th also happened during his tenure, and then at the end we experienced the financial crisis in ’08. Other presidents have been fortunate to have had good timing/circumstances. Take Bill Clinton for instance - he happened to be in office when large tech giants were originally formed, and the market experienced really good performance. Richard Nixon went off the gold standard and there was also the Oil Crisis in 1973. This is why the data suggests presidents should receive neither blame nor credit and it is not as tied to one party as we might think. Markets are driven by so many bigger things than who controls the White House.  Tax Policy We can also look at tax policies since this is another hot topic in this election. In any situation, there will be pros and cons:
Let's look at the presidents with tax cuts:
So WHATS THE MORAL? Tax cuts DO NOT guarantee successful outcomes. If you look at Reagan and Obama in the above graph - one president was known for tax cuts, and the other one for Obamacare. Two opposite ends of the spectrum, yet over their tenures they delivered virtually identical growth in someone’s wealth. Control of Congress People are also overly concerned about if one party takes over the White House, Senate and House all at once. This is called unified party control. Everyone has their strong opinions on how the world will ‘flip upside down’ if the opposing party ends up getting full control. So what has happened over history during times of unified party control? 
There can be plenty of conversations and debates around which party/policy will be better for the country; however when it comes to the market - it's important to look at the data. The evidence shows that it does not vary all that much when it comes to its effect on the stock market. What we do know....
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Regan Flaherty
CFP®, CPWA®, AAMS®
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