3rd Quarter Client Note

By Steven Smith | Investment Management

Oct 12

Asset classes gained virtually across the board in the third quarter. The S & P 500 (total return) Index increased 6.35% for the quarter, is up 16.44% for the year and is sitting at right around a five-year high. The Russell 2000 Index of small cap stocks gained 5.25%. Even international stocks, which have recently been adversely impacted by the rising dollar, performed well – with the MSCI World Ex US Index rising 7.30% for the quarter and 9.90% for the year. Some political progress was even made on keeping the Eurozone together.

Amazingly, bonds continue to post gains. The Barclays US Aggregate benchmark index was up 1.58% for the quarter and is up 3.99% for the year. The interest rate on 10-year Treasury Bonds started the year at 1.97% — which would be the expected return for the entire year in a flat interest rate environment. But the rate decreased to 1.65% to end the quarter.  (Interest rates and bond prices move inversely.)

The economy continues its slow and arduous recovery from the 2008 financial crisis with GDP growth remaining at below the 2% rate (or greater) that would be necessary to really make a dent in unemployment and housing.  A major external shock could throw the economy back into recession.

Portfolios and Politics

Only a few of weeks remain until the election is over. (I’m Steve Smith and I absolutely positively approve this message.) And it’s awfully tempting to prognosticate about the outcome and what impact that may have on our investments. But caution is advised.

Undoubtedly numerous major economic policy issues immediately await the winner. Chief among them:

  • Expiration of the Bush tax cuts on December 31.
  • The need to raise the debt ceiling again. (Who will ever forget last summer’s fiasco?)
  • Fiscal policy, as embodied in the so-called “fiscal cliff” – including the automatic spending cuts agreed to by both parties as part of the agreement to raise the debt ceiling.
  • The fate of the Affordable Care Act (“Obamacare”).

And eventually the country will also have to deal with all of the financial, emotional and philosophical issues surrounding Social Security, Medicare and Medicaid – determining whether to reform and buttress the current “defined benefit” like system or move to a more privatized “defined contribution” system under which all Americans, even the most unprepared, will have to take more personal responsibility for their pensions and health care in retirement.

A great deal of intrigue and mythology surrounds how Presidential elections and the ensuing administrations impact investors. Intuition tells us that investors would be buffeted by the pro-business policies of the Republican Party. But the data doesn’t bear that out. Just look at the last 20 years. The market went up a lot during the Clinton administration (1st term, + 10.5%, 2d term +19.2%); down over the course of the two terms of George W. Bush (1st term, -7.8%, 2d term, +.03%) and up 16.4% (as of March) under President Obama. Actually, split government (in which one party holds the white House and another controls Congress) seems to have produced the best results.

But none of this is a secret to investors. The history and uncertainty are priced in. Investors are best served by not worrying too much about the investment implications of who wins elections, but rather focusing on having a plan, maintaining discipline and managing their emotions.

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