The S&P 500 Only Tells Part of the Story…Post Election Market Commentary and Other Musings
Leading into the 2016 Presidential election, there was no shortage of opinions emanating from commentators and pundits about not only who would win the election but what may or may not happen “in the markets” depending upon which candidate won. As we saw the state by state election results come in, it became apparent that the commentators and pundits had been very wrong about what they were telling us leading up to the election.
As often happens after a significant global event, the domestic and international markets reacted to the election results based upon guesses as to how the domestic and global economies may or may not respond over the next few months and years. It is important to remember that such market reactions, whether up or down, are often the result of “bets” that managers of large institutions (i.e. large mutual funds, hedge funds, pension funds, charitable endowment funds, etc.) make as to what they think the markets will or won’t do. As a mountain of evidence gathered over many years shows, nobody knows for certain what the markets will or won’t do and very often such bets are very wrong. That is why it is extremely important to take a long term approach to examining investment performance. Inevitably, near term “choppy” market moves yield over the long term to underlying fundamentals (i.e. long term economic performance and long term earnings results).
Since the election last week, the commonly used benchmarks of domestic “market” performance, the Dow Jones Industrial Average (“DJIA”) and the S&P 500 index (“S&P 500”), are up substantially. The DJIA is up a very healthy 3.18% post-election while the S&P 500 was up a more modest but still very robust 1.35% post-election. If those numbers were all you looked at you may have gotten the impression that all equities, domestic and international alike, were up. However, we get a different story when we “look under the hood.”
It is important to remember that the DJIA is an index comprised of only 30 stocks, many of which are “industrial” stocks (which are those stocks that represent companies that produce goods that are used primarily for manufacturing or construction activities), although there are a few non-industrial stocks included as well. Examining only 30 stocks is obviously a very narrow look at the overall domestic economy. Our preference is to use the S&P 500 as a more accurate barometer of the performance of the domestic markets. The S&P 500 index measures the aggregate market performance of the largest 500 companies by market capitalization in the United States. This index obviously represents a much larger cross section of the domestic markets; however, even looking at the overall S&P 500 was a bit misleading last week.
Upon closer examination we see that the sectors of the domestic markets that performed the best were Industrials, Materials, and Financials. Conversely, Technology stocks, Consumer Staples, Telecom stocks, and Utilities had a rough week and served as a drag on the aggregate performance of the larger index. Much of the market moves attributable to these sectors are simply bets made by the large institutional managers as to how a Donald Trump administration may or may not impact these sectors of the domestic economy.
Looking overseas, we see a very different reaction to the U.S. Presidential election. Emerging Markets indices, until recently on a very nice market run year to date, gave back some of those gains (down 8.6% post-election) as institutional managers again made bets as to what impact the Trump administration may have on policies that could affect Emerging Markets stocks. To underscore our observations about such “betting,” we noted with interest that exchange traded funds that track aggregate returns of selected Mexico based stocks were down 16.27% (presumably a function of the tough rhetoric coming from the Trump campaign about Mexico leading up to the election). On a broader level, we also suspect that some of the pull-back in the Emerging Markets asset class was simply a function of the markets digesting the gains from its large year to date run. Even after last week’s declines, those markets have still experienced outstanding performance this year (up a healthy 7.02% year to date). International stocks in developed markets similarly had a down week, although developed international market indices were down only 1.55%, modest by comparison.
Small cap stocks are on an absolute tear since the election, up an astounding 9.43% post-election and 15.51% year to date. Our view is that aside from large institutional guesses as to the impact of a Trump administration on small cap stocks, much of the positive small cap performance that we’ve seen year to date is also attributable to the fact that over the past few years, small cap has lagged the performance of some of the other asset classes. At some point, small cap equities were going to similarly participate in boosting portfolio returns and the normal business cycle appears to have dictated that that time is now.
Our philosophy, backed by extensive market studies and research over many years, is that proper asset allocation utilizing a well-diversified portfolio of large and small domestic and international equities, fixed income, commodities, and cash is the primary driver of investment returns over the long term. Such diversification maximizes returns while minimizing risk so that investors are well positioned to obtain an efficient level of return commensurate with the amount of risk that each investor is willing to bear. Often, when one or more asset classes are performing well, others may be performing less well. That’s very normal. We encourage all of our clients and friends to ignore all the media noise (which is designed to foment emotion and generate viewership and the resulting ad revenue) and short term market gyrations and instead take a long term approach when assessing their investment strategies.