1st Quarter Client Note

The S & P 500 Index returned 5.3% (with dividends reinvested) taking the market’s gains to around 70% from a year ago — when the financial world was on a precipice.

There has been an interesting style shift recently. The 2009 recovery was led by large-cap growth companies. But in the first quarter of 2010, small-cap stocks led the way, with a gain of 8.7%.  Large-cap value was up by 7.4%, while large-cap growth gained only 2.5%. Foreign markets continued to perform well on a local currency basis; but not so much for US investors, who were hurt by the strengthening dollar.

While there are signs of life, the “real” economy has not clearly begun a robust recovery. The stock market is a discounting machine, anticipating recessions and recoveries. But there remain economic challenges; such as housing, employment, Greece and the inevitable retraction of government stimulus. Not to mention the things we can’t see.

Rebalancing portfolios last year (buying when others were fearfully selling) certainly paid off for investors. Now there are signs that last year’s sellers are coming back into the market. It’s hard to say whether that is a good sign or a cautionary one.

I always find it helpful to see current market conditions in their historical context. The following chart shows the historical distribution of US market returns since 1926. The performance years are stacked in ascending order by return range.


This chart illustrates that:

  • Market performance over the past two years has been extreme by historical standards. In 2008, US stocks experienced their second-worst calendar return in eighty-four years. Then, in 2009, stocks rebounded strongly to deliver a return in the top quartile of the historical distribution.
  • Over the long term, the market’s positive return years have outnumbered the negative return years. Since 1926, the market has experienced a positive return in almost three-quarters of the calendar years.

Of course, the order in which positive and negative returns will appear is unpredictable – at least through my crystal ball.

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