After the rocky end to 2018 left markets in turmoil, investors braced for a storm in 2019. Little did they know nearly every asset class would have a positive return, unemployment would continue to decline, and consumer spending would drive economic growth higher. But some cracks in the armor that emerged in 2018 began to bubble up again in 2019. Delayed resolution on trade with China and Brexit hurt global manufacturing and business confidence and led to record outflows from equities into bonds and cash. So, in a year where the expected failed to come to fruition and the unexpected dominated, what lessons can we learn?
Five Lessons from 2019
Forecasting the markets in the short-term with any level of accuracy is extremely difficult. That’s why it’s important to assess and learn from history when formulating future expectations. Here are the five most noteworthy lessons of 2019:
Lesson #1: Don’t fall for a “head fake”: 2018 ended with a thud as markets fell 19.4% over 14 weeks. The period was riddled with “bad news”—whether it was concerns over earnings growth, fears of the Fed overtightening, or the impact from the trade war. Fear dominated and many investors moved into cash. In fact, cash levels reached $2,842 billion in February, the highest level in almost nine years, as investors’ worries spilled over into the beginning of 2019. But because the short-term tumult was extrapolated into a longer-term trend, investors who were overly fearful and exited the market missed out on a 21.4% market rally through the remainder of the year.*
Lesson #2: The Fed can make a u-turn: Not unlike the majority of investors, we expected interest rates to increase this year. Instead, we got the reverse: the Fed lowered rates three times—75bps—over the year. Actually, Federal Reserve Chairman Powell signaled during a speech in Atlanta on January 4 the possibility of a cut when he said rate decisions would be data-based. Fortunately, bond portfolios benefited as lower yields pushed bond prices higher, while equities also responded positively, hitting all-time highs. This reminds us that the long-held investing rule—“Don’t fight the Fed”—still rings true, but last year added a twist: the Fed can pivot on a dime in response to evolving economic data.
Lesson #3: Focus on the house, not the zip code: Amid the uncertain fate of Brexit and the eventual impact on regional economies, some investors avoided Europe altogether last year. But European equity markets surprised them, soaring more than 20%. This tells us two things: First, investors are voicing their preference to own individual companies that perform well, even when their respective geographies are facing geopolitical pressures. Because where a company happens to be headquartered can have little impact on how well it can generate revenues and turn profits. Second, there appears to be a broad belief that Brexit will reach a rational conclusion.
Lesson #4: Don’t put all your eggs in one basket: The US equity market hit all-time highs in 2019 and investors that were predominately invested in that market outperformed the typical 60% stock/40% bond portfolio. This has prompted investors to question the concept of portfolio diversification. But markets don’t follow a calendar year—they don’t start on January 1 and end on December 31. If the time frame was expanded to include the fourth quarter of 2018, when the US market fell 19.4%, then having a more diversified portfolio could have lessened that decline.
Many alternative investments provide a healthy offset when equity markets struggle. That’s because they provide a different stream of returns than equities and bonds. This is important, especially when the stock and bond markets are falling. But even in periods when US equities are moving higher—like last year—an allocation to alternatives makes sense, because you never know when that downturn will hit, or how deep it’ll go.
Lesson #5: Expect the unexpected: Trying to predict human nature, let alone political negotiating tactics, is extremely difficult. The trade war is a prime example. Few, if any, expected the dispute between the US and China to last this long, especially as the election season kicks off. But it has…and remarkably, the market doesn’t seem to care! But if (or when) it gets fully resolved, it may not pull business confidence higher. This reminds us that unlikely events happen in the market. It’s important to understand where things could go wrong and weigh various possible outcomes.
The Past Informs but Doesn’t Shape the Future
Last year, we were reminded that markets can go up, even when investor risk aversion is rising, the Fed can still provide support, and investors can shrug off the surrounding geopolitical and economic environment. There’s a unique thread through all these lessons—uncertainty in market and investor behavior. Some market participants try to mitigate uncertainty and risk by moving in and out of the market at the exact ‘right’ time. But history suggests that investors who attempt to time the market usually end up with lower returns compared to those who stay the course. Staying the course, though, requires that we consider various market scenarios and their likelihood of occurrence, to provide a range of possible outcomes, so we can be prepared for whatever the market throws our way.
*S&P 500 total return 2/01/19–12/20/19
- Beata Kirr
- Co-Head—Investment Strategies
- Alexander Chaloff
- Co-Head—Investment Strategies