The Market Downturn (And Upturn) Is Coming
As of October 2, 2019 the S&P 500’s year-to-date return is 16.50%. Over the past five years, the index is up 50.05%. (Source: https://money.cnn.com/data/markets/sandp/)
While many investors are thrilled by these market returns, others feel uneasy. In their mind these types of returns surely can’t go on forever. They might point to Irving Fisher, one of America’s most celebrated economists who famously said that stocks had reached a “permanently high plateau” right before the economic collapse of the Great Depression.
They know that a downturn is coming.
The downturn is coming.
Call it a “downturn” a “market correction,” or whatever you will. The fact of the matter is that yes, at some point stocks will lose value. What gets lost in the shuffle is the fact that the market increase (or upturn, if you will) is also coming.
When we look to the future, we must do so with the recognition that good times and bad times lie ahead. It’s not for us, nor is it in our power, to predict the returns of the future. So when there is a downturn, it’s fine to be disappointed—just don’t be surprised.
Knowing that at some point a downturn is inevitable, some investors are wondering if they should be putting money into “less risky” assets. Bonds and Treasury Bills are often go-to securities for creating a more conservative portfolio, but some are looking for something “real,” something “tangible.” “Gold!” they exclaim. It can preserve principle in a market correction, and it can be used as a hedge against inflation.
But should you put your money in gold?
Gold in a portfolio.
Gold can provide a hedge against inflation, as well as a safe haven in market downturns. However, research has also noted some downsides. From "The Great Suppression: Actions and Implications for Gold Investors" by Amy Hubble, CFA, CFP®:
"As fixed income rates rise, the opportunity cost of owning gold or other nonproductive assets grows higher. If rates persist near zero, investors will be forced to add additional risk to their portfolios to generate yield. As this study illustrated, gold may provide a favorable risk-adjusted return profile to traditional portfolios comprised mostly of stocks during periods of low inflation and low interest rates, but offers no yield or guarantee of growth going forward. For risk-averse retirement savers, the risks of not reaching their retirement goals, coupled with losing money in ‘safe’ investments have large consequences, and they should not include gold in their portfolios."
A timely Investment News article by Jeff Benjamin titled “The Case Against Gold” (https://www.investmentnews.com/article/20190923/FREE/190929977/the-case-against-gold) offers an interesting insight into what advisors currently think about gold. The article highlights that many financial advisors view gold as a trading vehicle, rather than an investment. They point to the fact that gold doesn’t produce income or dividends. Additionally, though gold has a reputation as a hedge against inflation, advisors also point to Treasury Inflation-Protected Securities serving the same purpose.
Though gold may provide a hedge against inflation, and preservation during a market downturn, it's possible that other fixed income assets should take priority in one’s portfolio.
The historical benefits of Treasury and government bond allocations for stability and preservation of principle are quite clear.
We don't know what the future holds, and historical returns never guarantee future ones. But, historically speaking, government bonds and Treasury Bills have offered protection during market downturns.
Government Bonds and Treasury Bills.
To highlight government bond and Treasury Bill preservation qualities, consider the worst rolling one and five-year returns over the past 45 years. Over this timeframe, the greatest decline for government bonds was -8.5% in a single year and positive 1.4% over a rolling a 5-year period. Treasury Bills provided even more preservation with 0.0% being the lowest return in any 1-year period. This came with reduced upside potential in comparison to government bonds with a gain of only 0.1% for its lowest return over a 5-year rolling period over the last 45 years. (Source: https://www.investmentsillustrated.com/clients/crsp/bp/graph.html)
One of the most important questions that any investor should ask is “What’s my tolerance for market volatility?” This question can be surprisingly difficult to answer, especially if the investor hasn’t endured a bear market with a significant sum at stake. For investors feeling jittery about the next downturn, it’s certainly worthwhile to revisit your asset allocation.
What “asset allocation” translates to in practice is how much of your portfolio is made up of stocks vs. the amount held in less risky assets such as bonds. Increasing your ratio of bonds to stocks should decrease the volatility that your portfolio experiences. This reduction in volatility comes at the cost of reducing the potential for higher returns. But this isn’t something to lose sleep over if it keeps you from losing sleep during a market downturn!
Some final thoughts.
As you can see, asset allocation is a delicate balancing act in which you want to determine the best portfolio for you that will maximize returns while allowing you to sleep comfortably at night.
If you’re worried about the inevitable, yet unpredictable market downturn, I recommend reviewing your asset allocation to see if any adjustments should be made. Your individual circumstances will need to be taken into account as you make this decision.
What about gold? Apportioning a small percentage of your portfolio to gold may not be an unreasonable proposition for added diversification. In my portfolio, however, I’m not planning on including it.
The content you just read is for informational purposes only. Yes, I’m a financial advisor, but this article really isn’t intended as advice for you specifically. Your unique situation needs to be taken into account, and the ideas presented here may not apply.
So, please make sure you do your due diligence BEFORE implementing anything. Due diligence includes hiring a qualified professional who understands your situation completely and can offer you personalized advice.