Janet Yellen and the other members of the Federal Reserve’s Open Market Committee (FOMC) put a little more cheer in investors’ Christmas stockings at their December meeting during which they once again refused to raise interest rates from their current near-zero rate policy. The stock market, which had fallen steadily in the weeks leading up to the FOMC meeting, rallied in dramatic fashion once it became obvious that interest rates were not going up immediately. The FOMC vote was split 7-3 with two members taking a hawkish stance and the other member taking a dovish position because he believes the current low inflationary environment argues against raising rates at all. The Fed, which has kept interest rates in the basement since 2008 in an effort to stimulate the economy, did signal they are anticipating a slow, gradual increase in rates sometime in 2015. In a prepared statement, the Fed said that with the economy “expanding at a moderate pace” and with “solid job gains and a lower unemployment rate,” the central bank could be “patient in beginning to normalize” interest rates. I guess that is a tortured way of saying they will continue with the status quo and raise rates only when they believe it will not have a material adverse impact on the economy.
Inflation, as measured by the CPI (Consumer Price Index), declined -0.3% in November, the largest drop in over six years, and was partially fueled by a significant decline in gasoline prices. For the twelve months ended November 30, inflation rose just 1.3%, well below the Fed’s 2% target rate. Adjusted for volatile food and energy, the so-called core rate was up 1.7% over the past year. As everyone knows by now, oil prices plummeted from over $100 per barrel to under $60 when Saudi Arabia broke from OPEC, deciding to maintain production in the face of increasing world supply and falling demand. Previously, Saudi was the one OPEC country that was always cutting production in an effort to support prices. However, they got tired of other OPEC members cheating and apparently decided to let market forces determine prices for the time being. The Saudis believe they can sustain lower prices longer than many other countries and also believe they can force some of the smaller American shale producers out of business, thereby limiting a supply source. Only time will tell on both assumptions.
Common stocks went for a rollercoaster ride during much of 2014, demonstrating once again the futility of trying to time the market. U.S. companies produced positive returns and international markets lost ground during the final quarter and full year. During the 4th quarter, small domestic companies (S&P 600) produced the greatest gains of 9.85% while international emerging markets (MSCI EM) gave back the most ground, falling -4.50%. For the full year, large U.S. companies (S&P 500) had bragging rights posting impressive gains of 13.69% with international developed markets (MSCI EAFE) stumbling across the finish line, losing -4.90%.
Much to the dismay of yield hungry fixed-income investors, interest rates continued their downward trajectory as investors worldwide sought the safe-haven of U.S. Treasuries. The 10-year U.S. Treasury note ended the year yielding a modest 2.17%, down from 3.04% at the beginning of 2014. Our bond benchmark (Barclays Capital 1-5 Year Government/Credit) produced a return of 0.41% for 4Q-14 and 1.42% for the full year. Precious metals investors experienced losses for the 4th quarter, the full year, and now, double-digit annualized losses over the past 3 years.
MPT Really Does Work
The professionals at Wealthview Capital manage portfolios consistent with the major tenants of Modern Portfolio Theory (MPT): optimal asset allocation, broad diversification, and periodic rebalancing. By properly balancing risk with safety, we strive to create the optimal allocation – that being the portfolio designed to produce either (a) the highest return given an investor’s risk tolerance or (b) the lowest risk given an investor’s return expectation. However, optimal asset allocation by itself will not work if your portfolio is not broadly diversified and periodically rebalanced. Anyone currently overweight in energy stocks can relate. Those last two MPT tenants are designed to help you pursue a market rate of return, upon which most planning assumptions are based. Additionally, your costs and taxes must be controlled. At the end of the day, what you keep matters far more than what you earn.
Finally, the single biggest deterrent to investor success must be acknowledged and properly controlled. That deterrent is investor behavior. Most investors, left to their own devices, will eventually succumb to the emotions of fear or greed (or both) and make an impulsive decision at exactly the wrong time that can wipe out years of prudent planning and investing. It only takes one wrong move at the wrong time from which it may be impossible to recover. Our decades of practical experience combined with established analytical tools are the resources on which we rely to help our clients resist subjective emotional tendencies and develop the financial discipline and accountability required to be successful.
The markets will always give and take in some form or another. This time it was the Federal Reserve stuffing borrowers’ stockings with cheap money and Saudi Arabia filling consumers’ tanks with cheaper gas. Both of these gifts increase discretionary income, which will eventually find its way into other goods and services lifting overall economic activity. In fact, the U.S. economy just posted the fastest growth rate in over 11 years, expanding at a 5% seasonally adjusted rate in the 3rd quarter. Unemployment is at multi-year lows, and corporate earnings are growing at double-digit rates, gift-wrapped so to speak with a bow of low inflation.
Our economy and its free-market foundation is an amazingly complex, resilient and flexible machine composed of numerous interconnected parts, each exerting influence and filling a void when and where appropriate. It does not pay to bet against it. It does pay to develop a plan for your own financial future and then work to make that plan a reality. Your goals are likely to be some form of wealth accumulation, preservation, utilization or transfer to the next generation. Although our specific goals may be unique to each of us, they are all funded with real dollars that should be prudently managed by someone who is held accountable for the results. This is our mission at Wealthview Capital, and we take it very seriously. Thanks to all of you who have honored us with the stewardship of your financial assets in 2014.
Best wishes for a prosperous and healthy new year.