How Will the Market and Your Money Behave in an Election Year?
“Let’s say it clearly: No one knows where the market is going — experts or novices, soothsayers or astrologers. That’s the simple truth.”— Fortune
“So Greg, where do you think the market is headed?”
This is a question I get asked often. I get it from friends, family, people I know well, and new people I meet when I tell them what I do for a living.
If only we knew the answer to this question. Wouldn’t life be so beautiful and comfortable if we could predict these kinds of things? Considering we can barely predict the weather with complete accuracy, we shouldn’t assume we can reliably profit from uncertain political events.
Yes, it’s an election year, so there is guaranteed to be some level of uncertainty (and not just in the markets!). But at the same time, a major international crisis or domestic event could occur tomorrow that could also throw the markets into turmoil. The simple truth is that prices and markets already reflect the uncertainty of the election.
So what does that mean for you, the investor, who is concerned about what will happen to your money? Here are some basic truths and tips that will hopefully give you some peace of mind during this uncertain season:
Don’t Try to Beat the Market
The market is not something that can be beaten. It’s that simple. Really. So don’t bother trying and waste your precious time, energy and money. Looking at past economic crises, we can see that there is no way to predict when market turning points will occur or how dramatic they will be. The markets will change continuously, reacting to multiple factors. Don’t be tempted to try to time the market. This method is always a crap-shoot.
Since no sign from the sky appears telling us when to buy and sell, we have to rely on the data we have. Morningstar tells us that “tactical allocation,” or actively adjusting your portfolio based on market timing, doesn’t pay off. While the concept seems enticing, the research tells us that:
these funds generally failed to deliver better risk-adjusted returns, or downside protection, than a traditional balanced index portfolio split 60%/40% between stocks and bonds, respectively.
As John Bogle, founder of Vanguard, says:
I don’t believe in market timing. I’ve been around this business darn near a half-century, and I know I can’t do it successfully. In fact, I don’t even know anyone who knows anyone who has ever successfully timed the market over the long term.
What is your option then? You’d be far better off to stop the panic, ignore the short-term noise and focus on a carefully designed, long-term plan. Simplicity wins. So take this route and get on with your life.
Be An Evidence-Based Investor
Evidence-based investing works. This tactic ignores all the “fancy” talk out there and keeps things simple. It’s based on Nobel Prizing winning academic research, and objective thoughts about robust data analysis, repeatability and reproducibility, and formal peer reviews.
Then, looking at all this information, advisors come up with a strategy for investors that is simple, clear and understandable.
If you would like to find out more about specific mutual funds that are best used to implement an evidence-based investing strategy, check out this post.
Control What You Can
I’m not going to lie; it’s easy to get caught up in headlines and sensationalism, especially with the zoo that this election season has turned out to be. But keeping your head can be the difference between a successful portfolio and one that loses instead of gains (and causes you lost sleep and more wrinkles along the way).
Let’s look at some things we can control:
1. Low investment fees
Fees are one thing you can easily control when it comes to your investments. So, be sure to find low cost mutual funds to lower your investment fees.
Every mutual fund has what is called an “expense ratio”. Think of it as a price tag on every mutual fund. Like clothes or cars, some are more expensive than others (with “quality” that is not always commensurate with its price).
Look for low-cost mutual funds that will not suck your returns dry. The lower your fund’s expense ratio, the higher your total returns are likely to be. It’s honestly that simple. Continuing with our price tag example above, if you are “shopping” for an S&P 500 Index fund, and one charges 1% and the other charges 0.50%, and both funds return 10% last year before fees, your return (which is what really matters) will be 9.0% for the more expensive fund, and 9.5% for the less expensive fund.
Here’s a “hot tip” from Pathway for building wealth: Do you want to know the best way to predict if a mutual fund will beat its peers over the long-term? It’s fees. When I worked at Morningstar, this was repeated so often it almost lost it’s potency for me. But it’s true: Morningstar has done heaps of research that confirms over and over: the best predictor of long-term success is low fees. As my friend and former colleague Russ Kinnel, editor of Morningstar FundInvestor, says:
We found that the cheapest funds were at least two to three times more likely to succeed than the priciest funds. Strikingly, our finding held across virtually every asset class and time period we examined, which clearly indicates that investors should keep cost in mind no matter what type of fund they are considering.
Fees matter. That’s why we write so much about it, such as easy and powerful ways to trim fat fees. In fact, you can see all our posts about fees and expenses here. (Click on it and you’ll think “Holy shit, I didn’t know so much could be written about fees,” but that’s how important fees are).
2. Asset Allocation
Balance is healthy. It can be hard to find balance in life, but don’t let your portfolio suffer from vertigo. Allocate your investments across different asset classes and balance your risk and reward.
One of the biggest decisions you make is your allocation between stocks and bonds. “Should I put 80% of my portfolio in stock, and the rest in bonds? Or would it be better to have less stock, maybe 60% in stock and 40% in bonds?”
This decision alone will drive your risk and return numbers more than anything else (and determine whether you have sleepless nights during inevitable market corrections). So, spend alot of time on this “high-level” decision first. Then you can have fun picking between emerging markets, high-yield bonds, commodity funds, etc.
It’s also important to allocate your portfolio globally. Most investors have a tendency to overweight US stocks. But there’s a whole other world of opportunity out there. Below is a simple graphic that shows the global breakdown of the world’s market capitalization:
Figure 1 – Global Breakdown of the World’s Market Capitalization
Why is this important? Different countries behave differently, and are subject to different economic factors. This fundamental characteristic actually helps to increase your returns and decrease risk (the theory behind this is called Modern Portfolio Theory, if you interested to learn more about it).
Put simply, when one country’s stock market is “zigging” upward, and another country is “zagging” downward, all this can have beneficial results to you and your globally diversified portfolio.
3. Know Your Risk Number
If you don’t know your risk level, you can’t have complete peace of mind about your portfolio. Make sure your risk level is aligned with your portfolio.
Remember that high-level, important decision between stocks and bonds we mentioned above? Knowing how much risk you can handle is key to determine how you split your overall portfolio between stocks and bonds.
But how do you know, you ask? We have a simple tool for that.
4. Behavior pitfalls
Know yourself. Know what sets you off and know how to rein yourself back in. Avoid herd mentality. Don’t let your emotions control your finances. Sit tight and let the careful planning you’ve done work for you.
Our brains were not wired well for investing. Managing your emotions is key to successful investing.
In this circus of an election year, there will be market changes. That’s reality. Your reality is that you can’t control or predict these changes. What you can do is keep your goals, philosophy, and strategy stable and reap the long-term rewards.
Want more advice on making the most of your money? Schedule a no-obligation chat with me below.