Wall Street got the new month started on the right foot on Tuesday, as majxor market benchmarks continued their upward surge and retained much of their momentum from November.
Market participants have proposed a number of explanations for the strong performance in stocks lately. Yet largely going unnoticed is a dramatic shift in the way that investors think about the stock market.
Jeff Powell, CIO, Managing Partner & Founder of Polaris Wealth & Jeremy Witbeck, Partner at Polaris Wealth, discuss how the change in view certainly explains the gains, but it also raises some concerns for the near-term future.
Good morning, everybody. This is Jeff Powell, managing partner and Chief Investment Officer for Polaris Wealth Advisory Group. With me as Jeremy Witbeck partner at the firm. Today, Jeremy, we’re gonna do a little role reversal. So rather than you hosting, I’m gonna be hosting, we’ll make this into something a lot more fun and conversational, for all to listen to hear. Jeremy, one of the things that I’ve been hearing a lot from doing client meetings with some of our clients is asking about the market. So why in the world of the markets going up, so right now, for example, we’ve got COVID, hitting almost all time highs, we’ve got death rates that are almost at the same levels that we saw, at the very beginning of COVID. We have some unrest going on in the White House and some uncertainty of elections, we still have a runoff that’s going to be happening out in January. So we still don’t know what’s going on within that. Yet the markets are climbing. And it’s kind of confusing to people. And one of the things that I’m hearing from people is why is this happening? You know, they’re they’re some of our what we refer to as equal opportunity, worrying clients there, they worry when the markets are going up, and they’re afraid that they’re going to correct and sometimes they come back to us in a raid another dropping well, or equal opportunity, worrying clients are asking a lot of questions. So I thought today, we would talk about that. So if you could, for me, maybe give me one of your insights on what’s going on. And we’ll kind of rattle back and forth with other ideas of what might be driving this market going forward.
I think there’s there’s quite a few things going on here. But it all kind of boils down to sentiment improving and a lot of the uncertainty that we’ve had for the last several months dissipating. And that’s true on both the pandemic front and then also with the election. But one of the things that we’re observing is the discount that was applied to the market is starting to dissipate as people become more optimistic with what’s happening. And one of the ways that I’ve really seen that manifested is with earnings, for example, that company earnings weren’t as bad as what people feared. And in fact, not only were the historical earnings, not as bad, but also the forecasted earnings going forward, I think are better than what people were hoping for. And certainly there’s been a lot of optimism both on the investor side, but also on the company management side. But there’s there’s been a lot of good things that have been going on, and a lot of great things to talk about. But it all seems to boil down to that that despair, or that that discount that was being applied is no longer being applied in the way that it was before. Jeff, I know this is an area that you studied pretty extensively and curious to hear what your thoughts are, as to guess some of the recent shifts that really started that a couple months ago, and then really cemented itself with some of the vaccine announcements, comments of way?
Well, the first thing that kind of comes to mind with what you were talking about, and I was going to joke about it is are you are you toying with the average Wall Street analyst is wrong with their expectations, one of the things that I always find within it is that it’s more like straight line assumptions. And if there’s a bump in the in the system, then they tend to get it wrong. So when you’ve got a market that’s going straight up, their expectations are for the markets to continue to go straight back up. And then when you’ve got something like a worldwide pandemic going on, oh my gosh, you know, now everything’s horrible. So they set really low expectations. And the earnings have been coming in with better than the the very lowered expectations. And now that there is a vaccine, a two actually three now vaccines that are out, we are looking at having earnings next year that were better than what we were expecting, or what we had last year. And 2022 earnings even higher than 2021, which is promising. But you know, the biggest thing that I’m seeing out there is a major shift in leadership. One of the things that you kind of already were hitting on with a little bit of this, and we talked about this in a couple of our prior podcasts is that when a market recovers, so we obviously had the largest drop in the history of our stock market, or the fastest 30% drop, not the largest ever, but the fastest ever. And we have some horrible things going on. We’ve got the I mean, we had a 9% drop in GDP two quarters ago, 2.9% drop in GDP, if you’re looking what how that compares to, for example, the Great Recession, the 9%, the whole thing all wrapped up in one quarter, and that was multiple years, the 2.9 puts us at levels that we haven’t seen since the Great Depression. In fact, these two quarters have compared to the four years of the great depression or worse and all but 1932. So we do have some bad things, but most people invest based upon future expectations, not what’s going on right now. And with the the three vaccines to which it look very, very, very, very promising. And in fact, we’re expecting FDA approval here very shortly on And distribution and start immediately on, where you’re we I, certainly a month, month and a half ago was not expecting that. But anyway, anyway, when you’ve got a big correction, you normally have one group of leadership that restarts you up the path of recovery. And then you’ve got a whole nother group that actually takes you to a different level and a higher level. And so you saw tech be really the, the driving factor, and communication services, which is kind of a combination of tech and telecom from days past really be the driving factor. And then some very, very specific areas within consumer discretionary. So you have things like Amazon that’s driving some of that as well. Where you did not see your nordstroms, your Macy’s, your your Kohl’s, a lot of the the brick and mortar stores do nearly as well, during the pandemic. So you’re starting to see the companies that got really beaten up be the ones that recover. So energy, for example, recovered, huge and the last month, large cap value have the the the largest one month return in its history, just this last month, so you really are starting to see a shift, and things like industrials and energy and financials. And the areas of the market that we didn’t see in Provo.
certainly been really interesting to watch all that play out. And, Jeff, do you mind walking through some of the future expectations? I know that that’s been something that’s high on everyone’s mind. And you mentioned earlier that the markets tend to price the future and not necessarily what’s currently happening? What does the future look like based on what you’re saying?
Well, I mean, we are seeing a typically we have a reversion to the mean, that happens. So when you’ve got as large of a GDP drop off, as you’ve seen Go on, historically speaking, recoveries can be huge afterwards. And I think that’s what you’re most likely going to see. So, for example, we have the four years of the Great Depression. What most people don’t realize is not all of the 1930s was horrible, like 1934 1935 1936, GDP growth was up about on average, about 10% growth. Those three years, when you’ve seen other major recessions that we’ve had, you’ve tended to see the markets and the economy rebound, pretty significantly afterwards. So when we had the great recession, we’d really didn’t because we had a systemic issue going on. But really what we’re talking about right now with our current economy, is that we we had to shut it down. In order to be able to protect our population, there was nothing wrong with the economy going into the recession that we’re in right now. It’s it’s a self inflicted, because we’re trying to protect our population. So when we have the ability to have people back, in restaurants and in stores and and ballgames and everything else, I would say that our economy not only stops back, but most likely snap back, and a much bigger wine. And when you see that go on, you’re the expectations for earnings growth and things of that nature, should be significantly higher. So for example, we track it down on the sector specifics. And again, some of the areas that have been really, really depressed, and days past are really where we’re expecting to see significant growth. So really, one of the areas that we are favoring most, right now, as in the industrial space, it happens to only be about 10% of the market. But it looks like there is an area that we should see a lot of growth. And also in consumer discretionary and communication services are the areas that that look the most attractive. Beyond that, again, when we’re talking about a reversion of the mean, I mean, energy was down more than 50% for the year going into November, as dow down only only 36%. But that’s a substantial return when you’re talking about going from being down 50 to being down 36% in just one month. So we’re going to see certain areas that weren’t in favor coming back. There’s a lot of opportunity there. I would say also, if you’re looking at Travel and Leisure would be another area that if we do have a recovery with vaccines that the first thing that I think a lot of people are gonna want to do is travel. I don’t know, you know what kind of traveling you’ve been doing Jeremy but my traveling has been from my bedroom to my office, my office to the kitchen. I don’t think that really counts as traveling. So I’d certainly would like to be on an airplane going somewhere nice and warm over Christmas break, but that’s just not going to happen.
Yeah, well unfortunately, my routine is very similar to yours. I don’t think these floors have had quite the traffic problems, what they’ve had the last several months but um, anything I can do to improve Few people safe and healthy. So Jeff on looking at the different industries, it’s very industry interesting with regard to then portfolio and technical management. So it sounds like the logical movement would be to start shifting into those areas. Now that we’ve had this year playouts. And we’ve seen kind of the behavior of people, any recommendations that you’d give to people with regards to their portfolio management, and how to react and how not to overreact or anything that we’ve learned from what we’ve gone through this year? Yeah, I
mean, here’s the things that throw out. First and foremost, do your best to remove emotion from this. One of the things that we always talk about is bull markets climb a wall for a, so our Equal Opportunity clients that worry about things when they’re going up and saying how much further they can can they go, and that’s going to be a big correction. You know, Polaris isn’t trying to dodge the 510 percent corrections in the market, nobody can do that. Nobody can do that consistently, you’re going to Zig when you should zag, and get hurt, when there’s a fundamental shift. And what’s going on is really where we’re looking to try to avoid downside losses with the markets. So if you’re sitting on cash, you got to get a working for yourself. That’s number one. So again, we have so many people that are saying, Oh, I’m too afraid to do this. And to free to do that, no, you’ve got to get your money working, you’ve got to be fully invested. The bond market right now is not your friend also. So I mean, again, start thinking not only about getting your money working for you, but how you’re allocating that. So when we talk to people about being afraid of losing money in the market, what they don’t realize is that they’re guaranteeing themselves. I mean, if you’re sitting on average bank account, you’re basically making nothing right now. And you’ve got about a 2% inflation rate going on. And so what I oftentimes will tell people like okay, well, I’ve got a great investment for you, you give me that million dollars, and in 10 years time, I’m going to give you $800,000 back. How does that sound? All right, well, that sounds horrible. Like, well, that’s what you’re doing yourself, right now, you’re sitting there leaving money in cash sitting at the bank, what you’re doing is you’re guaranteeing yourself, the G word, our business is a bad word for the most part, but you’re guaranteeing that you’re going to lose buying power over the next decade. And on average, it will be I mean, 2%. on the low side. I mean, historically speaking, we’ve seen and we’ve seen inflation more at three and a half. So if you’re looking at it from a historical standpoint, Jeremy and I’ve both talked to people about this, we call it the silent killer. So you have a guaranteed loss by sitting there in cash. But it feels more comfortable because your statement looks the same. Or Fast Forward 10 years, what percentage of the time has there been a 10 year time period in the stock market, where you’ve lost money? To me, I’m going back to like the 1950s, I don’t think there’s a single time period, that you’ve lost money, I can’t go back to the Great Depression and look at it. But we’re not dealing with great depression situations, or we’re dealing with a pandemic, that’s now something that we’ve got, you know, a couple of vaccines too. So to look at it in this kind of context, I just don’t see why you don’t put your money fully to work for you and go forward from there. And again, the allocation matters. Okay, so the 10 year Treasury right now is getting you about 10, at about eight tenths of 1%. So same scenario that we were just talking about, about saying, you know, got a great investment for you, you know, instead of it being 800,000, I’m giving it back to this case, I’ll be giving you a $900,000. But you’re still losing 100 grand over a 10 year time period, not including compounding interest, by buying treasuries. So you got to really start rethinking where your money is being invested where the best opportunities are within the markets to be involved. And one of the things that we’ve got to start thinking about a lot stronger context, as again, more equity to fixed income. It’s not a traditional, you know, rule of thumb way of investing, you can’t sit there and say, okay, 120 minus by age, that’s the fixed income side of it. That doesn’t work in this market. So we really, again, cash needs to be working for you. allocation. Again, what is risk as risk losing buying power guaranteed to lose buying power over a period of time, whereas that a one year downturn away, it was just a mean, Fall of seven, spring of oh nine, it was a year and a half time period where you lost money. We were back to breakeven by the end of 2009. We’re obviously significantly up in this current market environment that we’re dealing with right now, from where we are, whereas a lot of other investment advisory firms and most individual investors are not. So again, looking at this, you got to start pushing them. You got to get that cash working for you. And he got to start pushing that asset allocation, far more towards equity than you ever would have historically in the 80s 90s or in the 2000s because the fixed income marketplace is not your friend and you Remember,
Jeff, you you hit on something that’s really key there. And I don’t think it can be emphasized enough and that is that there are two major risk factors in portfolio’s volatility risk, which I think we’re all overtrained and hypersensitive to and hopefully over the next years over the next decades, people learn to have a thicker skin there. But the other one, and to your point, one that were an excuse it one that we’re not very well accustomed to paying attention to is the purchasing power risk. And the reason for that is because we used to be able to very easily be purchasing power risk with bonds, and even CDs and bank accounts for quite a while until we cut interest rates as low as we did away. However, that is the the one that’s going to get a lot of people, as you mentioned, the silent killer, and I don’t think enough people are talking about it. And I don’t think there’s enough attention there. So I really appreciated your comments, just bringing that to light that that is the number one risk factor that most people should be afraid of not volatility. Volatility takes care of itself a time purchasing power risk gets worse with time. And so we really have to address that one, quite immediately for most people.
Yeah, I mean, I couldn’t agree with you more, Jeremy. I mean, I think the one thing behind it is the psychology. Now, as much as you say that people will hopefully, you know, be able to improve upon what’s going on from a volatility risk standpoint. I mean, the issues that you and I both see is that we have certain clients out there, they get very jittery, the moment the market started turning south, the first, it’s a fight or flight situation, and their first instinct is to flight. And by doing that they’re selling, when the markets are down five, 710 percent, and they’re selling at exactly the wrong time. And then what they end up doing is waiting for themselves to become more comfortable. But at what price, they’ve already lost the 10% that they lost. Typically, the markets recover much faster than when they when they’re dropping, and so you get a person that’s going Oh, the markets have dropped, let’s say that they let’s use our current environment, you know, markets dropped 30%, we were now nowhere close to that. But again, the average person, it’s a three to one ratio of the pain of losing $1 versus the euphoria of making one. So somebody is down 10%. And their back of their mind and the subconscious of they feel like they’re down 30. If you’re down 15, I mean, God, you’re not 45% they start freaking out, when it’s nowhere close to that. And so this comfort level of, I’ve got a million dollars, and it’s sitting in cash, and it’s not hurting me leaving it in cash for a long period. No, it is hurting you. That million should be 2 million, or 4 million or 8 million. And the compounding interest of what you should be dealing with is huge. And if you don’t allow for him to work for itself, that’s really what we’re talking about with that silent killer million 10 years from now, because you just left it there in cash. And it left it there alone is really what we’re talking about being a major issue with with losing buying power. And so that’s to me, the part that I look at, and I’m most concerned with with people is again, falling into this this comfort zone of too much fixed income. I just sat down with a client, and he had great income. But is he bought a Premium Bonds, or is his total return on his bond portfolio was about three quarters of 1%. And the average duration was about six and a half years. And he thought it was doing great because of the income. But what he didn’t realize that that income comes with the price. And over time, those Premium Bonds are going to go back from being over 100 per bond down to par value and mature and he’s going to lose principal value. So he’s going to get current income, which is great. But he’s going to lose value on his portfolio. And he’s going to wake up one day and look up and go, what happened here. And it’s our job. You know, I’m very evangelistic about this Jeremy. I mean, to me, it’s like, the advice that the average financial advisor is giving their client right now is wrong. They’re allowing their client to dictate the allocation based upon their fear factor versus what’s best for them. Okay, it’s like letting your kid decide that they’re gonna have a scream every single night for dinner, because it’s what they like, versus what’s good for them. And we can’t allow this to go on. And so all the textbooks everything else that you were taught when you were learning finance, and I was taught when I was learning finance, it doesn’t work in this current market environment. And so unfortunately, I’m not saying that the financial advisors are purposely going in and getting ice cream out. They just have the wrong formula for what’s best for a client in this current market environment. And it’s our jobs to sit there and think outside the box but unfortunately so many people are simply lemmings. They’re not Thinking about it in this context?
Yeah, Jeff, it’s very interesting. And you know, when we get asked what is going to be one of the biggest issues over the next decade, I think that you just hit the nail on the head, that for people that are retiring, the biggest issue is going to be that they weren’t invested properly. And that if and when inflation does eventually rear its ugly head, they’re not going to be positioned for that correctly. And the retirement that they thought that they were going to have, is going to get eaten away by the inflation because they weren’t properly protected. We had an interesting conversation earlier. And I think this will be a nice way to kind of wrap up what we’re talking about today. And that is the disparity between the wealthy and the not wealthy in this country. And it’s certainly been something that’s had a lot of press coverage the last several years. And I I recognize we’re not going to solve the world’s problems with this. But I am curious to hear your insights as to what’s really happening there. And more importantly, what can our clients do about it? And what can our listeners do about it? Well,
I mean, yeah, we’re definitely not solving this problem today. But it does continue to be front mind and front. And the media’s crosshairs as well. Talking about it. And so first and foremost, I mean, obviously, you know, one of the things that we probably need to do is lay a little ground on what we’re really talking about here. average household income in the United States, is just under $60,000 a year, if you’re looking at it from a global or from a an overall perspective. And so when you’re looking at it, that’s dual income, that’s two people working in order to get that kind of income. And so when we are looking at that, and you are talking about how you’re able to, to really kind of drive disparity within last spirity with an income. To me, it’s it’s a very complicated issue. But there are some very easy paths to the solution. And the first and foremost is education. I mean, if you’re looking at it from from the context of, and I’m not saying it’s going to be easy to get more people educated, I’m just saying that the answer is pretty easy. It’s how you backfill the answers is the complicated part of it. But if you’re looking at it from the context of, if you look at the average household income of somebody, and this is one person, average annual earnings per degree of high school gets you about $39,000, a year in income, a bachelor’s degree, so just a normal ba or bs from a university gets you $73,000. And advanced degrees on average is 106,000. So if you’re looking at it in just that context, you’re looking at almost a doubling and income, going from being a high school graduate to getting a bachelor’s degree. Now I hear a lot of people talking about how expensive college is getting and so on. There’s other solutions there. I mean, the community college system, or the JC systems, is a fantastic solution. here in California, a lot of people don’t understand at how cheap going to a community college really, as my son, for example, got furloughed for college. So he’s off to SMU, Southern Methodist University in Dallas, in the spring. But he didn’t I mean, he was accepted into 11 of 13 colleges. But that was his first choice. And so we decided that he should go there. And so he wanted to make sure that he graduated on time. So he’s going to community college, he’s taking 12 credits, and it’s costing I want to say less than $500 for those 12 credits. So there are really cheap ways for you to be able to get those first two years under your belt period. And then if you get good grades and the community college system in California, there’s an automatic admittance into the UC system. So if you get I believe over a 3.0, and the community college system, you’re automatically and it didn’t go to UC Berkeley, UCLA, UC Davis,
I mean, some of the hardest schools in the country are not so hard to get into when you’re looking out and entering in in your junior year. So maybe it’s not just your typical traditional college experience for people that are in a more a lower income situation, but there are a lot of solutions for them to be able to go through at least to California systems. I know that there are other states like Louisiana, a certain grade point average at UCLA, or I’m sorry that you get an LSU automatically. I know that for example, within the Texas system, a top 10% of the graduating class automatically gets admittance into the Texas schools system. So there’s ways for people to be able to get in, there’s lots of scholarship money, and it’s out there and available to them. But the other thing that I look at is what’s going on right now, unemployment rate. If you’re looking at unemployment for somebody who is college educated right now, it’s 4.2%. Right now, if you’re looking at the overall youth unemployment is 6.9. So and then if you’re looking at somebody that has a high school education, it’s eight. And if someone who doesn’t even have a college education, it’s almost 10%. So again, going back into the system, a there’s more income that’s there. But also the likelihood of disruption of cash flow, during your working career goes down substantially, if you’re more educated. So those two things together, so you’re not having to go back into savings when you get unemployed, when we have things like what’s going on right now, by having a better education, but also the fact that you’re gonna be making more another solution. So you don’t have to be so indebted, going through college. So that’s to me, part of the solution. Now, getting people there, getting them through the the K through 12 system, getting them into some form of higher education, making sure that money is available to them. And through scholarships and other things, I don’t have that solution. But to me, the end result is that we’ve got to push more and more of our population more of the lower and middle class into a situation where there’s vocational schools, where there’s higher education, for them to be able to be to be doing the jobs that are making more money.
Jeff, that’s great advice. As you’re talking, the only thing that I would add to that, too, is just helping people to learn how to have their money work as hard for them as they did to earn it. Too many times, we see people that make decent income, and they spend every penny of it. And they don’t do the most important thing to create wealth, which is to pay themselves first and to save into their retirement plans to save into a taxable account. And one of the things I’m very interesting is year over year, they talk about how the wealthier keep getting, or the wealthy keep getting wealthier, whereas the rest of the people are kind of staying put. And the math is very simple. In the stat the wealthy have found out a way to earn in real terms, meaning that their money increases faster than the rate of inflation. And that is what we do for our clients is we help them increase their money faster than the rate of inflation. So I always like the adage that if you can’t beat them join them. Certainly, there’s a lot of talk about trying to level the playing field, but one of the things that we can do is we can certainly learn from the habits of the rich, which is to get our money working for us in a manner that beats inflation, that doesn’t diminish our purchasing power. And one of the best vehicles to do that the stock market and kind of going back to earlier, which is why we have to be so focused on what our long term goal is, and not let short term events shake us out of what is probably one of the biggest opportunities that we have access to
let me close with a reiteration of what you just said there. So I mean, obviously, if you’re able to make more money, you know, obviously one of the biggest things that we always talk to people is when you get raises to forget your raise, and just put that into savings. You want to start with doing that on a pre tax basis until you’re maxing it out, and then go from there. But you know, the keeping up with the Joneses is so true. Jeremy, your point is such an excellent one. And you don’t have to be working in like color. Some of the largest clients that we have are people that were in blue collar households that didn’t know who the Joneses were let alone trying to keep up with them. And they really lived within their means they saved they scrimped, they did everything that they needed to do in order to be in a position where they were able to have a very high net worth down the road. And so again, don’t confuse the education with that I just talked about education as a huge part of it. But we have some very educated people that we work with, that should be much further ahead than they are because they are all about outward appearance, and not about making sure that they’re saving enough money to accomplish their long term financial goals. Because at the end of it, there is no such thing as what’s your number, the IMG commercial of how much money should you have to set aside for yourself, because every single person has a goal for themselves individually of what they want their retirement to look like. And that’s where you’re running your own race. And so it’s your exact point. I mean, being able to have money working for you, having being able to outpace inflation, being smart about it, you know, what kind of mortgage do you have? You know, are you properly insured so you don’t get derailed and those things, thinking about things like estate planning, which we are actively involved with. All of those things are truly what drive our markets and really what us moving forward here. So I think that’s a great place for us to kind of wrap up, we can jump perhaps into a little bit more about some mistakes that people are making within with within their not only their portfolios, but also within their estate planning, perhaps in our next podcast, but for now, I think that we’ve got a great place for us to kind of sever those. So, just want to thank everybody for listening to this week’s podcast. I hope you had a wonderful Thanksgiving, and we’ll look forward to talk with you guys next week.
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