Now that 2018 has come to an end, many investors will be reviewing their performance.
Unlike the previous nine years, from 2009 through 2017, during which stocks made an incredible run with the S&P 500 rallying from a low of 666 (intraday low from March 2009) to a year-end close as of Dec. 31, 2017, of 2,743, a gain of an incredible 2,077 points or 312 percent (not counting dividends earned each year), 2018 was dramatically different, with the S&P 500 closing the year at 2,506, for a price change of -237, or -8.64 percent.
With dividends included, the S&P 500 lost 4.38 percent in 2018. The strong bull market trend that investors have enjoyed from that low in 2009 has come to an end.
Looking ahead, investors will no longer be able to employ a “buy and hold” strategy and expect to generate strong positive returns on their portfolios. Instead, active management will be required to navigate the increased volatility and lack of a strong trend.
While there are all kinds of financial advisers — some good, some not so good, some experienced, some not — they key benefit of working with an adviser as opposed to managing one’s own money is that the adviser (hopefully) is not subjected to emotional responses when the markets experience high levels of volatility.
In contrast, investors managing their own money must fight the tendency to panic when markets correct and the value of their portfolio may be cascading downward. If we think about the times in our lives when we have made bad decisions that we regret, the vast majority of those decisions were made when we were highly emotional.
Decisions made under emotional duress are rarely good ones, regardless of the type of decision — financial, relationship, legal, you name it. For this reason, using a qualified and experienced financial professional can make a huge difference with long-term portfolio performance.
I have been working as a financial services professional for almost 30 years. In that time, the financial services industry has gone through many changes. The most significant change has been the introduction and proliferation of discount brokerage firms. While the benefits are obvious — lower trading costs and fees — the negatives may not be so obvious, but they are every bit as significant, and I would argue that some of these changes have been highly damaging to the average investor.
It is difficult to watch television without seeing commercials promising low or even zero fees for various investments or services from discount brokerage firms. Recently, I saw a commercial that promised to teach investors how to successfully trade options — just call and one of our “experts” will teach you how to trade options! As someone who has spent my career managing money, and who has extensive option trading experience, I can tell you with complete certainty that it is not possible to “learn how to trade options” in a single phone call.
This would be laughable if it were not so potentially dangerous for unsophisticated and unsuspecting investors.
Perhaps the most damaging consequence of the proliferation of discount brokerage firms is the shift in public perception about the value-add from full-service financial professionals. Investors today are increasingly unwilling to pay a financial professional fees that are commensurate with the time, expertise, efforts and personal attention provided through the client/financial professional relationship.
Investors tend to focus primarily on performance over the short term, which very often results in the lack of perceived value for the fees paid to the financial professional. If the investor views the value of the relationship as entirely performance-based, it is understandably difficult for the investor to feel that they are receiving acceptable value for the cost incurred unless the adviser is generating outsized returns significantly above the performance of the benchmark index (S&P 500, for example).
Often, investors only look at whether they are making or losing money, regardless of what the financial markets are doing, which places the financial professional in an even more difficult position with regard to justifying their fees.
Unlike other discount-based options, the difference in actual value received within the full-service financial services industry cannot be easily calculated.
If a consumer goes to Costco looking to buy a television, he or she can easily compare the price offered to the price for the same TV on Amazon, Best Buy or any number of other retailers. This “apples to apples” comparison makes it simple and straightforward to calculate the value received for shopping with the retailer offering the lowest price.
In contrast, the value-add from the financial professional is not easy to calculate, or to compare directly with the lower charges of the discount brokerage firm. How do you place a monetary value on the personal attention, customization of the portfolio approach to the investor’s needs, the peace of mind gained from knowing a qualified professional is monitoring investments, of knowing that the professional is well-qualified, educated, experienced, ethical and caring?
The recent correction can serve as a good example of how a good adviser can make a huge difference in the long-term performance for the investor, while at the same time that huge difference may be difficult or impossible to calculate.
When stocks worked through the correction of almost 20 percent, it was anything but orderly. Markets can spend months or even years generating gains, only to be followed by sharp declines that can happen in weeks, days or even hours.
Such was the case with this most recent correction; we had a few key days when stocks fell precipitously, including Dec. 24 when the Dow Jones Industrial Average dropped by almost 1,100 points.
On that day, many investors panicked and sold. After the Christmas Day holiday, stocks opened a bit higher Dec. 26 and steadily increased throughout the session. (Incidentally I was actively buying stocks the morning of Dec. 26, immediately after the market open).
Very few investors who manage their own portfolios, and who, driven by emotion panicked on Dec. 24 and sold stocks, stepped back in on Dec. 26 before stocks rebounded. Those investors are either still sitting in cash, hoping that stocks experience another drop so they can buy back in where they sold, or, acting again on emotion, they waited until stocks had rebounded significantly and then bought back in at much higher prices than where they sold.
Either of those scenarios is devastating to that investor’s performance. If, by working with a professional, the investor could have avoided making an emotional decision that resulted in selling low and then either missing the rebound, or waiting too long and then buying back in at higher prices, the investor’s performance would be substantially better (although calculating the difference is virtually impossible).
If we step back and look at the possible impact of multiple situations like this over a number of years, we can start to understand how a competent professional can make a huge positive impact on the investor’s long-term performance (although, again, it would be hard to calculate the difference between the performance of the professional and the theoretical performance of the investor if they made mistakes through acting emotionally).
Even an investor who is solely focused on performance can benefit greatly from working with a qualified professional, even within the context of the higher fees charged for the full-service adviser.
The new year has just begun, so this is a great time to re-evaluate investment strategies and update financial plans. Investors should take a critical look at how they navigated 2018, and should also understand that unlike the previous nine years, from 2009 through 2017, we are no longer in a strong bull market uptrend.
Instead, looking ahead, stocks will be much more volatile, and it will be increasingly necessary to employ an active management strategy to effectively generate positive returns. Traditional buy-and-hold strategies are likely to underperform for the foreseeable future.
The possibility of a recession sometime in the next few years is a very real one, and this presents additional challenges and requirements for financial planning and portfolio management strategies.
Investors who have been managing their own portfolios, and have made those emotional decisions that have resulted in poor performance, may want to consider engaging a financial professional who can bring clarity, reason, professionalism and personal attention to the table.
— Craig Allen, CFA, CFP, CIMA, is president of Allen Wealth Management, and has been managing assets for foundations, corporations and high-net worth individuals for more than 25 years. He can be contacted at craig@craigdallen.com or 805.898.1400. Click here to read previous columns or follow him on Twitter: @MPAMCraig. The opinions expressed are his own.
