On Wednesday August 14th, several news publications were sounding the alarm bells on the market with headlines "TSX and Dow plunge in worst day of the year", and while the TSX index declined 304 points and the Dow 800 points, it is important to put things in perspective.
Putting It in Perspective:
Here is the chart for the TSX for the past ten years. Wednesday's drop? It is somewhere on the far right side.
If we zoom in to the past two years, you can see the drop circled. In percentage terms, the index dropped 1.90%, but what followed afterwards was a 137 point recover on Friday, August 16th, followed by another 83 point increase on Monday, August 19th, putting the one-week net change to just -0.6%. If you had panicked on Wednesday and hit the "sell" button, you would have missed out on the bounce-back to trim those losses.
The Yield Curve and Other Economic Indicators:
You may have heard in the news about the yield curve inverting. The yield curve compares the interest rate of short-term bonds to longer-term bonds and is usually expressed as a differential between two maturities like the 2-year and the 10-year. Under normal circumstances, shorter-term rates are lower than longer-term rates. An inversion occurs when the opposite occurs. This is an important leading indicator as an inverted yield curve has preceded every recession in the past 40 years. If you would like to read more about our view on the yield curve inversion, click here: Global Weekly Insight Aug 15 2019 Yield Curve Inverts
While it is true that the yield curve has been a successful leading indicator, there tends to be some lag time between an inversion and a recession. The chart below shows the date of an inversion and the interval time between the inversion and the start of a recession. In the most recent recession in 2008, the yield curve inverted almost two years prior to the recession beginning.
The yield curve is just one of several recession indicators that we look at. Other indicators we look at include:
- Unemployment trends
- Consumer confidence
- Corporate profitability
- Credit conditions
These other indicators are all still indicating positively for the time being, and we will continue to monitor them for any signs of deterioration.
It is difficult to time the market:
It is extremely difficult to time the market both perfectly and consistently. You not only need to know when to sell to avoid the downturn, you must also know when to buy back to participate in the upswing. Missing out on this upswing has a very marked effect on long-term returns as you can see in the chart below. Staying on the sidelines on just 10 of the best trading days over a 10 year period cuts your return by almost half (4.0% vs 7.9%) as compared to simply staying invested. If you missed out on 30 of those days, you would have experienced a slight loss, and if you missed out on 50 of those days, it would have been a significant loss – those are some very significant differences!
How to Stay Invested While Managing Risk:
Rather than trying to time the market, we take a three-pronged approach to managing investments:
- Stock selection
- Periodically raising cash in the good times so we have funds available to take advantage of opportunities when they arise
- Rebalancing
Stock Selection: Staying Defensive
Looking back on that Wednesday, although all sectors were negatively impacted that day, not all stocks were hit equally:
- Energy names such as Crescent Point dropped 8.4%, while marijuana names like Aurora Cannabis were down 8.2%. We do not own either of these more aggressive names in our portfolios
- Names we do own - Waste Connections (waste disposal services), Loblaw (grocery stores) and Dollarama (dollar stores) fell approximately 1-2% that day but recovered by the end of the week.
Not all stocks are the same and our disciplined approach includes looking for a number key traits in a company before investing. We may not be correct all the time, but experience has proven that looking for these characteristics provides guidance in finding companies that are more resilient in a recession, and a strong investment over the long-term:
- Strong free cash flows
- High return on equity
- Low levels of debt
- A consistent history of stable and growing dividends
Needless to say, we have conviction in the companies we hold in your discretionary portfolios.
Periodically raising cash in the good times so we have funds available to take advantage of opportunities when they arise
While we believe in the discipline of staying invested, we will at times take the opportunity to raise some cash for safe-keeping when markets are doing well. We did just that in May, trimming from the global portfolio and putting it into a money-market fund. This provides us with a cash reserve that is ready to take advantage of opportunities presented by pricing dislocations in quality businesses, during periods of increased volatility.
Rebalancing to manage risk
Aside from stock selection, rebalancing is a very integral part of managing risk in a portfolio. Rebalancing is the discipline of taking profits off the best performing names and using those proceeds to buy companies that continue to trade at attractive valuations. It is a sort of auto-regulation process resulting in selling high and buying low. For example, during good times we may sell down a company that has outperformed to buy more of a company that has lagged by comparison.
Investing for the Long-Term
Investing in quality businesses is a long term proposition. While things may be volatile over a short time period, staying invested in a diversified portfolio of strong companies over a long time period and staying disciplined in rebalancing and taking profits helps to smooth out much of that volatility and has historically provided above average rates of return.
For regular market updates, please visit our website Hymers Wealth Management website for Market Commentary & Insights and/or visit this blog page Hymers Wealth Management Blog.
Warm Regards,
Rhonda
Rhonda Hymers, CIWM, CIM, FCSI, FEA | Director, Portfolio Manager & Wealth Advisor Hymers Wealth Management Group | RBC Dominion Securities Inc. | 12th Floor - 1200 Landmark Square VI , 1631 Dickson Avenue, Kelowna, BC, V1Y 0B5 | Tel: 250-712-2148 | Fax: 250-712-2179 | Email: rhonda.hymers@rbc.com | Website: www.rhondahymers.com
Rossellen Wiltse, CIM, CFP, FCSI Associate Investment Advisor & Financial Planner | Hymers Wealth Management Group | RBC Dominion Securities Inc.| Suite 1200 Landmark Square VI , 1631 Dickson Ave, Kelowna, BC V1Y 0B5 | Tel: 250-712-2134 | Fax: 250-712-2120 | Email: rossellen.wiltse@rbc.com | Website: www.rhondahymers.com
Darren Zalay, CFA I Associate Investment Advisor | Hymers Wealth Management Group | RBC Dominion Securities Inc.| Suite 1200 Landmark Square VI , 1631 Dickson Ave, Kelowna, BC V1Y 0B5 | Tel: 250-712-2170 | Fax: 250-712-2120 | Email: darren.zalay@rbc.com | Website: www.rhondahymers.com
Kuan Ho, CFA I Associate Investment Advisor | Hymers Wealth Management Group | RBC Dominion Securities Inc.| Suite 1200 Landmark Square VI , 1631 Dickson Ave, Kelowna, BC V1Y 0B5 | Tel: 250-448-1343 | Fax: 250-712-2120 | Email: kuan.ho@rbc.com | Website: www.rhondahymers.com