Back in November, when the weather was warmer and the world was a bit more open, I hosted a gathering in my backyard to celebrate the 40th birthdays of two of my closest friends. As a part of the evening’s festivities, we all gathered around the roaring fires and each guest took a turn sharing a nugget of wisdom or lesson learned over the course of their ever-changing life. Some were funny enough to bring people to the edge of tears, while others were heartfelt and emotional enough to take some past that edge. When it was my turn, I shared how much I have grown to value and embrace the act of celebrating itself. The opportunity to take a pause from the day-to-day hustle and bustle—that often seems like an ever-constant state of being—in order to acknowledge and revel in the fact that something special has occurred, is too often passed up. Maybe it’s a Midwestern characteristic related to humility and wanting to avoid any perception of tooting one’s own horn too loudly (or at all), but sometimes when good things happen, you just gotta blow that horn!
Interestingly, when it comes to our work at CCM, I’ve noticed a hesitancy of clients to feel comfortable celebrating reaching financial milestones. For example, when a savings goal is met, or a portfolio milestone is reached, it’s as if people are worried that if they crack a smile or acknowledge the positive shift, market karma will knock them back a few steps. The same fear of what’s to come goes for strong portfolio returns. Although markets can be volatile (which is never enjoyable) and although it’s true that every bear market has been preceded by an all-time high, so has every new all-time high.
It’s rare that a day goes by that I don’t get an email or see a story online about the next impending doomsday scenario clearly outlining the reasons to SELL NOW! As you would expect, these predictions rarely pan out, and even less often for anything close to the reasons provided. Interestingly, the rationale given to sell is often full of positive experiences from the recent past. So, with the strong performance of 2021 behind us, I want to take this opportunity to provide reasons to celebrate some of the highlights.
Stock Markets Brought Great Performance
Put plainly, 2021 was another great year to be invested in stocks. In the U.S., it as the third straight year that the S&P 500 generated double digit returns and was up nearly 30%.1 And within our managed portfolios, our primary small cap value fund was up more than 42%.2 Although international stocks trailed behind, most developed markets indexes were still up double digits.3 If the market hitting a new all-time high sounded to some investors like a reason to sell instead of celebrate, it would have been a long year for those who chose to sit in cash, because after the S&P 500 hit its first all-time high in January, it proceeded to do so again 69 more times.4
Diversification Continues to Work
When thinking about ways to reduce risk in a portfolio, diversification is always something worth celebrating. Although there were a few bumps in the road in 2021 for stock market returns, even within a globally diversified stock portfolio, the past year was relatively calm. In fact, the maximum drawdown for the S&P 500 was just over 5%, which is the second lowest year since 1995.5 While that’s great, you might be wondering what it has to do with diversification. Well, although the index was down just 5% last year, every company within that basket of stocks fell further. In fact, 468 of the 500 had a period in which they were down more than 10% and 195 fell more than 20%.6
Inflation Occurred and Your Portfolio Was Ready
One of the significant financial stories of 2021 was the spike in inflation experienced across the economy. With a 7% year over year change in the consumer price index, it was the largest increase in the measure within the U.S. since the 1980s.7 Being an integrated wealth management firm versus simply a money manager, we at CCM know the impact inflation can have on the long-term success of a financial plan. In our July newsletter we highlighted the interconnectedness between inflation and markets and outlined how we position our clients to be protected from such price shocks.
One traditional strategy that we touched on as not being worth its weight as an inflationary hedge was investing in gold and other precious metals. Although there were countless headlines in 2021 about pundits claiming that gold will get you through the upcoming inflationary spike, gold not only did not keep up with inflation in 2021, the metal actually lost 4.3% for the year.8 Compare that with stock returns, which far outpaced the changes in prices for the year, and you can start to see why we think it is the asset class that is the best at protecting your long-term financial plan from the erosion of purchasing power.
Increasing Interest Rates Are Not a Cause for Panic
Related to the inflationary shift that occurred in 2021, the biggest headline topic going into 2022 has been the change in the position of the Federal Reserve and the potential for the increasing of the federal funds rate. There is much speculation about the number of potential increases, timing, and the level to which rates may (or may not) change. For many investors, the fear is that an increase in interest rates will have a detrimental effect on the value of bonds (as interest rates and bond prices move in opposite directions) as well as the concern of some that the economy, and therefore stocks, will be negatively impacted by rates moving up from zero.
Before the fear of the unknown sets in from what many are saying is a certainty for adverse outcomes, the truth is that no one truly knows what will transpire with rates, and if/when they do increase how that will impact the investments in your portfolio. For investors holding cash in a reserve account or for short-term savings, the increase in rates by the Fed are a good thing, as interest will likely recover from the extremely low rates of the past few years.
For the possible impact on stocks and bonds, the good news is that we have a recent real-world example that shows that all is not lost when rates increase. As we discussed in our April 2021 newsletter, interest rates on U.S. Treasuries bottomed out in August of 2020, and in the subsequent seven months that rate increased 1.22% by the end of March 2021.9 What happened to stocks over that stretch? The S&P 500 returned 21.9% while small cap value stocks were up over 70%.10 As for bonds, long-term treasuries suffered significantly during this rising rate period nearly down 20%11, but as we discussed in April, with our management of fixed income using both the levels of rates and the shape of the yield curve, we didn’t have allocations to long bonds during this period.
Subsequent to that rise in rates, because these investments were now relatively favorable, we moved out on the curve where appropriate and captured very positive performance while rates fell through the summer months. We are currently monitoring the state of interest rates and the yield curve and will be prepared to adjust strategies as appropriate. I hope you’ll join me in 2022 in an effort to recognize and honor moments and occasions to celebrate. Our team at Carlson Capital Management looks forward to sharing them with you.
- Morningstar Direct. S&P 500 TR
- Morningstar Direct. Avantis US Small Cap Value ETF (AVUV)
- Morningstar Direct. MSCI EAFE NR USD, MSCI EAFE Value NR USD, MSCI EAFE Small Cap NR USD, MSCI EAFE Small Value NR USD
- Morningstar Direct. S&P 500 TR
- FactSet, Standard & Poor’s, J.P. Morgan Asset Management. Returns are based on price index only and do not include dividends. Intra-year drops refers to the largest market drops from a peak to a trough during the year. For illustrative purposes only. Guide to the Markets - U.S. Data sets are as of December 31, 2021.
- Morningstar Direct. S&P 500 TR. Holdings analysis completed using Vanguard 500 Fund Index ETF as of December 31, 2021 with calculations made by CCM.
- US Bureau of Labor and Statistics (https://www.bls.gov/cpi/home.htm)
- Morningstar Direct. LBMA Gold Price PM USD
- U.S. Department of the Treasury (https://www.treasury.gov/)
- Morningstar Direct. S&P 500 TR & Avantis US Small Cap Value ETF (AVUV)
- Morningstar Direct. Vanguard Long-Term Treasury ETF (VGLT)
NOTE: The information provided in this article is intended for clients of Carlson Capital Management. We recommend that individuals consult with a professional adviser familiar with their particular situation for advice concerning specific investment, accounting, tax, and legal matters before taking any action.
