Market Update - September 2022
The negatives are obvious. I'm not going to continue to beat that broken drum. If you want to hear it, just turn on and insert your favorite news channel here.
Let's focus on opportunities in a market like this:
First, if you can stomach a little extra income tax, this is an excellent time to Roth convert your IRAs. We can work together to figure out how much. The gist is that if you Roth convert IRAs when the value is down, then when the market returns, all the gains grow tax-free. It's also tax-free when you withdraw for the rest of your retirement. With tax brackets all but sure to increase in 2026, this is an excellent opportunity to take advantage of a down market and lower tax brackets.
Second, Social Security should see an 8.7% raise in their benefit next year for a COLA or Cost of Living Adjustment. This is the most significant increase since 1981.
Third, a little feedback on Active vs. Passive investing. This article is the proof in the pudding that index investing, which was the darling of the past 10-15 years, does not work in an overvalued market. This is why our clients outperform the market in a year like this. We entrust client funds to active managers and stock pickers from some of the best companies in the world. This is also why, as soon as possible, we want to get out of those limited 401k investing index choices and into something that can actively mitigate risk.
From the Wall Street Journal:
Almost Half of Stock Pickers Beat the Market in Early 2022 Selloff
Actively managed large-cap funds are on track to log their best performance in 13 years amid high inflation and rapidly rising interest rates
Nearly half of large-cap U.S. stock-picking funds beat the S&P 500 during the brutal selloff in the first half of the year, putting active managers on pace for their best year since 2009.
Bruised by sky-high inflation and rising interest rates, the S&P 500 fell 20% on a total return basis, which includes dividends as well as price changes, in the first six months of 2022. That was the index’s worst first half in data going back to 1988, according to Dow Jones Market Data.
Over the first six months, 49% of large-cap domestic equity funds outperformed the S&P 500, according to data from S&P Dow Jones Indices. In 2009, 52% of funds surpassed the benchmark index over the full year. The analysis looks at fund total returns net of fees and compares them with the total returns of benchmark indexes.
Last year, by contrast, easy monetary policy and hearty corporate profits helped the S&P 500 climb 29%. The happy results for stockholders didn’t translate into a winning year for stock pickers trying to beat the market: 85% of actively managed, large-cap U.S. stock funds put up a worse showing than the benchmark index.
Looking further back, it isn’t clear that a rallying market necessarily hurts stock pickers’ chances of outperforming. In 2009, the most recent year in which a majority of large-cap U.S. stock-picking funds beat the S&P 500, the index rose 26%.
One characteristic that does connect the market environments of 2009 and the first half of 2022: high dispersion in stock performance. Through the end of June, S&P 500 dispersion—a measure of how spread out the returns of the index’s stocks are—was on pace for its highest average annual reading since 2009, according to S&P Dow Jones Indices.
“What higher dispersion does is it magnifies the rewards to skillful insights,” said Tim Edwards, global head of index investment strategy at the index provider. “It also magnifies the rewards to luck.”
The first half of 2022 saw energy stocks soar, while many other parts of the market tumbled. Shares of Occidental Petroleum Corp. and Valero Energy Corp. returned 104% and 44%, respectively. At the other end of the market, Netflix Inc. shares slumped 71% while Etsy Inc. lost 67%.
Among the biggest actively managed U.S. large-cap funds, performance in the first half varied, according to data from Morningstar Direct. Class A shares of the Growth Fund of America from American Funds declined 30%, worse than the S&P 500 and also slightly lagging behind the S&P 500 Growth index, which dropped 28%.
Growth funds had a particularly rough go of it to start 2022, with the S&P Dow Jones Indices data showing that 79% of large-cap growth funds watched the provider’s growth-style index pass them by.
Class A shares of Washington Mutual Investors Fund from American Funds, on the other hand, fell 13%, according to Morningstar Direct, significantly better than the S&P 500.
In the first half, active managers being compared against the market may have benefited from the environment of monetary tightening as the Federal Reserve began raising interest rates, said Tim McCusker, chief investment officer at investment consulting firm NEPC.
“That’s a helpful thing for active managers,” he said. “Instead of money just flooding into equity markets and pushing all assets higher, you’re starting to see some differentiation.”
Over the long run, few funds manage to beat their benchmarks. Over the 20 years through June, only about 5% of large-cap U.S. funds beat the S&P 500, according to the S&P report. Just staying in business was an accomplishment, with about 26% of the funds surviving over that time.
At the end of 2021, $7.1 trillion was indexed to the S&P 500 in passively managed funds, while $8.5 trillion was benchmarked to the index in actively managed funds.
Indexes are dominated by the top companies, and look what happened to the now defunct acronym FAANG (Facebook or "Meta," Apple, Amazon, Netflix, Google). Some now call it MAMAA (thanks, Cramer!) or Meta, Apple, Microsoft, Amazon, and Alphabet. I would consider MAMAAT to include TESLA amongst S&P 500 index overweights. One thing is for sure, Netflix is gone.
In the meantime, we're in for a turbulent flight. But, if history tells us anything, there will be a rebound, and it will be steep.
Get outside, go to the beach, or a hike. Something about the salt in the air by the water just melts any worries away. So stay positive and keep on.
Sunny skies,
