“The important thing about an investment philosophy is that you have one you can stick with” – David Booth, Co-founder of Dimensional Fund Advisors.
Happy New Year! I hope the holiday season treated you well and your year is off to a great start. When I began preparing our 4th quarter commentary I questioned how investors would react to me sharing the same message of “staying the course” when the US stock indices closed with their worst yearly losses since 2008 and the S&P 500 had a 20% intra-year correction (between 9/20/2018 and 12/24/2018). Furthermore, you will be reviewing your quarterly statements and seeing these negative results first hand. I’m sure the last thing you want to hear is that everything is fine, but in all honesty, that is the truth. I hope by the end of this letter you’ll understand why I constantly preach this message and realize how we, at Market Street, are guided by facts rather than fads in our investment philosophy.
In the past, we’ve used our end-of-year commentary to make predictions on possible market influences for the year ahead (both bullish and bearish). As I reflected on our past year-end write-ups, I felt compelled to take a different approach and double down on our message by sharing one of my favorite formulas, which I think drives home our investment philosophy at Market Street: E+R=O (Event + Response = Outcome). This formula was introduced by Jack Canfield in his book “The Success Principles”. This simple formula has a much greater impact on your long-term personal and financial success than any predictions I could make that will most likely prove to be incorrect when reviewed this time next year.
The beauty of this equation is that the outcome – either positive or negative – is the result of how you respond to an event, not just the result of the event itself. If response didn’t matter, then we would expect an event to derive the same outcomes for all parties involved, which we know is not the case. In 2008, we experienced the second worst market decline of all-time, outside of the Great Depression. Between October 2007 and March 2009, The S&P 500 fell 57%!!! Investors who were not properly diversified lost over half their portfolio value as a result of this single event. I believe the most interesting findings from looking at the ensuing 10-year recovery have been the various outcomes that were driven by investor responses (E+R=O). Did you know that since 2008, the US equity market (measured by the S&P 500) has recovered 271% through 12/31/2018? And yes, this does include the terrible 4th quarter results we just experienced that you’re seeing in your quarterly reports.
You may ask, “what’s your point, Kyle”? My point is that we know over the long-term markets are actually quite predictable. History clearly illustrates that markets go through cycles. We know that since 1926, markets are up 75% of the time while being down 25% of the time - this should make you happy. History has clearly illustrated that markets typically recover in a “V” shape manner, which means if you capitulate and sell during corrections you will likely miss out on some of the largest gains when the markets begins to recover.
The chart below, which shows the performance of the S&P 500 since 1990-2017, clearly illustrates this point. If you remained invested over this period, the S&P 500 delivered an annualized compound return of 9.81%. However, if you missed the 5 single best trading days in this recovery your return would have only been 8.21%. Worse, if you missed the 25 single best trading days your return would have been cut almost in half to 4.53%. This theme has also held true 2019 with the S&P 500 already up 4.2% YTD (15 days into the new year at the time of this writing). As you can see, your responses do matter and they have consequences, which is why we constantly preach discipline and communicate the same message regardless of what market cycle we are in.
Evidence shows us markets are efficient and remain in a constant state of equilibrium as they process the vast amounts of information by sellers and buyers. It is our belief in this evidence that allows us to remain disciplined through bull markets, bear markets, political strife, economic instability, and any other crisis that threatens our portfolios. As David Booth suggests, it has allowed us to build an investment philosophy we can always stick to because it’s backed by decades of empirical academic research.
If you have any questions or would like talk please don’t hesitate to call. Otherwise, I encourage you to focus on your response, remain disciplined, and watch your financial outcomes blossom over the long-term. Our investment philosophy is one you can stick with and we will help you do just that! Have a great year and we look forward to hearing from you soon!
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