By Ryan Yuhnke
If you aren’t a client, we can only assume that you (or your advisor) lost a large chunk of money and didn’t have a sell strategy to get out of the market when prices were high. If that sounds like you, it’s time to have a conversation with your advisor.
Yes, 2023 is a new year but that doesn’t mean the volatility of 2022 is a thing of the past. In fact, there’s a strong chance the market will continue to fall in 2023. The last thing you want to do if you lost a lot last year is to continue with the same strategy (or lack of strategy) going forward.
Here are some questions to ask to better assess your advisor’s ability to help you navigate the volatility that is likely to continue in 2023:
- Do you have a sell strategy going into 2023? With significant losses experienced in 2022, I can’t afford the same result in 2023.
- What specific changes are you going to make to avoid the same experience we had in 2022?
- Why didn’t we sell when the S&P 500 was priced in the top 1 percentile most expensive in the past 150 years as calculated by the Shiller Price/Earnings ratio?
- How can you make money or additional return in fixed income when interest rates were well below 1%, and why didn’t we sell bonds to reduce interest rate risk?
- Should I be concerned with corporate bonds as we enter a recession where companies might not be able to fulfill their payment obligations? Given the high inflation, the government might not provide the previous levels of stimulus seen in 2020 to keep companies afloat.
- Do we have a buy strategy? And how do we know if what we own is priced attractively and whether it will be okay as we head into a recession? How can we backtest against the past recession of 2008?
You don’t necessarily need to go to this level of detail, but your advisor should be able to answer these questions if you do. It’s not enough to ride the coattails of “The market always comes back” or “You can’t time the market.” In fact, those responses, without any educated discussion about historical trends or economic indicators, are often major red flags.
“The Market Always Comes Back”
This is true. But how long are you willing to wait? After the 1929 Great Depression, the market came back 23 years later in 1952. In 2000, the market came back 12 years later in 2012. Are you prepared to wait until the 2030s to get back to 2021 levels, all while inflation eats away at your purchasing power and lowers your standard of living?
“You Can’t Time the Market”
Again this is true. But just because you can’t predict the future doesn’t mean you can’t make an educated decision based on facts, math, and past market pricing trends. Since 1857, recessions have occurred about every 4 years on average. A more modern estimate places that number around 8-12 years. It’s been 15 years since the last recession, meaning we are long overdue.
The stock market dropped approximately 50% in the 2000 recession and 50% in the 2008 recession, yet it’s only dropped 20% in 2022. That means there’s potentially another 30% drop if history is anything to go by (and we know that it is). If that’s the case, what makes more sense from a risk-reward perspective? Sit and collect 5% in U.S. government bonds with no credit risk and buy discounted stocks that are already priced similarly to the 2008 bottom levels, or continue to “hope things come back” as we enter a recession?
“We Own High-Quality Blue-Chip Companies With Strong Balance Sheets That Pay Good Dividends”
This is a popular tagline that advisors have used to keep uninformed investors in the market. Quality is great, and dividends are better, but at what price? What is the PE ratio now, and what was the PE ratio in March of 2009? If we look back to 2008-2009, even the blue-chip names took a significant hit.
Apple, Costco, and Microsoft all have the possibility of falling significantly since they have traditionally traded at much lower PE levels than they are right now. The higher the PE ratio, the more likely the stock may be overvalued, and the longer it might take for the earnings to catch up as the stock trades sideways or down. Buying or owning high-quality companies with resilient earnings at a PE ratio of 10 or lower would be one way to lower risk and ensure you own less expensively valued companies.
Mistakes Investors Will Make in 2023
Just as it’s important to keep an eye out for the warning signs in the market, it’s crucial to keep investor behavior in mind as well. Here are some of the top mistakes to avoid in 2023.
Recency Bias
Given the high inflation environment which typically indicates growth in the economic cycle, many investors are expecting a quick rebound once the recession hits. We believe that hanging your hat on this “hope” will leave you very disappointed. The U.S. is well overdue for a recession and we are already nearing the point in the economic cycle where corporate earnings fall and the risk of dislocation in the credit markets increase.
To reduce this risk, we are encouraging less exposure to the U.S. broad-based indexes and less exposure to corporate bonds, especially those of lower credit quality. Instead, consider short-term U.S. government debt, which yields nearly 5% on an annualized basis and lowers your interest-rate risk.
Freezing, Not Having a Sell Strategy, Giving Into a False Sense of a Security
Many investors perceive large, well-known companies like Apple, Microsoft, Pepsi, Costco, Proctor and Gamble, Coca-Cola, and General Mills to be “safe” companies. And while their earnings or profits are typically more resilient in recessions and not as likely to collapse, there can still be significant risk if the companies are priced too high and they currently are coming into 2023. If they hit the PE ratio that they hit in 2008, then they all have the possibility of dropping 40% or more. They won’t necessarily go to zero, but you’ll still lose a lot. Is it worth it to suffer this loss when you can be proactive and take steps to avoid the fall?
To reduce this risk, consider analyzing the pricing metrics of companies and funds that endured past recessions and compare them to current levels. In doing this, we have found companies that have already come down in price, are still high quality, and had a resilient earnings history in the 2008 recession. These companies will have a higher margin of safety and present a more attractive entry point since they are already trading near or past recession lows. This includes some international exposures that are priced very cheaply. Think buying Amazon in 2002!
Allowing Emotions to Take Over, Being Uninformed, and Selling at the Lows
This is likely a combination of mistakes 1 and 2. Having mathematically shown that the market is still priced expensively and the economy is overdue for a recession, a decline in the broad-based U.S. markets is highly likely. In addition, bonds will fall further if there is a severe credit event or if interest rates continue to rise.
To prevent large losses in stocks, own cheap exposures and add international diversification, which is less expensive than the U.S. In fixed income, high-quality credit will perform well if there is a credit, liquidity, or currency event. Have a list of quality exposures ready to buy when they reach low enough bargain-basement prices.
Do You Have a Plan?
It’s not enough to “hope” for a better investment experience in 2023. Understanding the economic relationships that created the volatility last year and are still driving volatility this year is the first step in creating a proactive investment strategy.
At Court Investment Services, we’ve been doing this for our clients all along and we can help you too. If you’re ready to experience the difference a proactive buy-and-sell strategy can make, schedule an appointment by contacting us at (800) 880-2760 or Kitty at kchu@CourtInvestmentServices.com.
About Ryan
Ryan Yuhnke is founder and Principal at Court Investment Services, an independent, fee-based investment firm that serves attorneys and fiduciaries as they manage estate-held assets. With two decades of experience, Ryan’s proactive, relationship-based process saves his clients time and money while putting them first in everything. He provides services and support to help attorneys and professional partners oversee and manage special-needs trusts, estates, conservatorships, guardianships, and other court accounts, including IRAs, 401(k)s, and all manner of retirement accounts that also fall under his clients’ management. Ryan is known for his commitment to excellence and transparency and his deep knowledge of probate laws, court compliance, and strategies to keep assets safe while abiding by all court and probate code directives. Ryan’s goal is to make his clients’ lives easier, providing investment support and education along the way.
Ryan has a bachelor’s degree in economics from the University of California, Irvine, and built his career working in banks, national investment firms, and registered investment advisory firms (RIAs.) Prior to starting CIS, he earned the title of First Vice President, and Portfolio Management Director while employed at Morgan Stanley in Newport Beach, CA. When he’s not working, Ryan can be found traveling to experience new cultures and environments, focusing on personal development through mental, social, spiritual, emotional, and physical growth, and most importantly enjoying quality time and creating new memories with family and friends. To learn more about Ryan, connect with him on LinkedIn.
