Index Returns Through 12-31-14
This month we want to provide a quick snapshot of 2014 results and talk about how things are shaping up as we begin 2015.
In 2014, while U.S. equity returns were high relative to those of other regional markets, returns within various U.S. market segments diverged. U.S. large cap stocks significantly outperformed small cap stocks.
In addition, for the third year in a row the U.S. large cap market avoided a 10% market correction (which historically on average occurs about every 8 months). This unbroken streak of positive U.S. large cap performance is unusual; it has only happened three other times since 1951.
Non-U.S. developed stock markets experienced negative performance across almost all major indices. Over the past two years, U.S. large cap stocks outperformed international markets by a significant amount. The relative outperformance of U.S. stocks vs. international stocks is also unusual; it has occurred less than 20% of the time (going back to 1970 for developed international and 1988 for emerging markets).
Considering that markets go in cycles, now is not the time to change strategies and overweight U.S. large cap stocks.
As a matter of fact, as I am writing this (Feb. 3rd, 2015), so far for the year U.S. stocks are down while international and emerging markets stocks are showing positive returns for the year. (Granted we are barely one month into the year. We don’t know how the year will turn out.)
U.S. markets comprise about half of the world’s total investment opportunity set. By only investing in U.S. markets we would miss the other half. Last year, that may have worked out well, but given a long-term view (looking back to all 10 year periods going back to 1970) over 70% of the time a globally diversified portfolio would have delivered higher returns than the S&P 500. Countries are in different stages of their market cycles and at any one point in time one market can and will outperform others.
Declining Oil Prices
Oil prices fell by almost half during 2014. This is largely attributed to an excess supply due to rising production—particularly in the U.S., where production soared to its highest level since 1986. In the U.S. prices dropped from $107 per barrel in June to just over $53 at year-end. That downward trend has continued into 2015, with oil at about $44.50 a barrel at the end of January.
Overall this is viewed as a positive sign, as it means both consumers and businesses have additional money available to spend.
In 2014, the U.S. dollar rose against every developed markets’ currency. Overall, it gained 12.5% against a basket of widely traded currencies, measured by the Wall Street Journal dollar index. This was the dollar’s best gain since 2005 and second-best on record. The rise was attributed to stronger U.S. economic data, falling global oil prices, expectations of higher interest rates, and weakened currencies resulting from monetary easing by the Japanese and European central banks.
This trend has continued into 2015 with the dollar experiencing additional gains through January of this year.
As discussed in our quarterly printed newsletter, a strong dollar may reduce the price of imports for us, and reduce the cost of traveling abroad. It may also hinder U.S. exports and thus corporate profits of U.S. companies. Thus, another reason to maintain a globally diversified portfolio.
Average US inflation remained low throughout 2014. In November, year-over-year inflation fell to 1.3%.
Across the world’s largest economies, inflation eased for the sixth straight month in November, with the Organization for Economic Cooperation and Development (OECD ) reporting average annual inflation for its 34 members at 1.5%.
Overall, this is viewed as a positive for the U.S. economy, although deflation is a concern for overseas economies.
Diverging Economic Policies
While the Fed (the U.S. Central Bank) is indicating a tighter monetary policy (quantitative easing has ended and the Fed may initiate a rate hike later in 2015), other major central banks are heading the opposite direction. The Bank of Japan increased its quantitative easing (purchasing of bonds), the Bank of China cut interest rates, and the ECB (Eurpean Central Bank) announced new actions in 2015 to stimulate the Eurozone economy.
Slightly higher interest rates would be welcome for retirees, as cash would begin to earn something more than zero.
Focus on the Orange Bars
While we stay up-to-date on what is going on in the market, our focus remains on the darker orange bars you see in the graph at the top of this page. Those represent the ten year annualized returns of each asset class. You can see how the one month returns (in dark gray) and even the five year returns (in lighter orange) vary from the ten year returns.
We don’t know which asset class will deliver the highest return over the next month, five years, or ten years, which is why we maintain exposure to many asset classes. What that means is we are not betting with your retirement money.
*Returns data in graph above from Advisor Intelligence. When possible we report index fund returns to show performance net of fund fees. As such in the graph:
Total Bond Market Index is: Vanguard’s Total Bond Market Index Fund(VBMFX)
US Large Cap is: Vanguard’s 500 Index Fund (VFINX)
US Small Cap is: Vanguard’s Small Cap Index Fund (NAESX)
Real Estate is: Vanguards’s REIT Index (VGSIX)
International Large cap is: Vanguard’s Total International Stocks Index (VGTSX)
International Small Cap is: MSCI World Ex USA Small Cap Index (not a fund)
Emerging Markets is: Vanguard’s Emerging Market’s Index Fund (VEIEX)
(Investment Sense is a monthly posting of market commentary with a common sense twist. For all our latest commentary follow us on Facebook.)