Don't Ignore the Long-Term Performance of Passive Investing
By Don Schreiber, Jr. - WBI Founder and CEO
(Printable PDF available below)
Over the past few years, the hot theme in investing has favored low cost indexing products over actively managed products. Most recent experience has also favored growth over value and large cap indexes over small and mid-cap indexes. The FAANG or large capitalization tech stocks have definitely outperformed the rest of the market and have helped lift the broad market indexes like the S&P 500 or Russell 3000 to successive new highs, but the stocks outside of the top ten capitalization weighted companies have provided only modest performance. Investors who continue to blindly indulge in these trends may see their great bull returns get consumed by bear market losses. I believe a long-term macro perspective can help investors make better investment decisions.
As investors, we seem to have a strong bias to pile into the portion of the market that has had the hottest or best performance and ignore the rest. In my experience, even managers who have demonstrated consistent long-term outperformance to the indexes have suffered withdrawals from investors who look at today’s lofty index returns and think “what have you done for me lately.” Chart 1 illustrates the meager long-term returns provided by the broad market equity indexes from 2000-2017. This longer-term perspective on performance with both bull and bear market returns can provide a sobering viewpoint on how markets have actually performed.
Data provided by Morningstar, Total Return, 2018. Hypothetical initial investment. Past performance does not guarantee future results. Indices are unmanaged and cannot be invested in directly.
Many investors are surprised to learn returns have been so soft over the past 18 years. Conventional approaches suggest that investors should attempt to buy and hold the indexes and not to “time the market.” The theory suggests investors will miss out on the most powerful bull market gains if they attempt to miss the most damaging bear market losses. From 2000-2017, the S&P 500 and Russell 3000 Indexes had maximum losses from market high to low of 50.9% and 51.2% respectively.1 The Investment Company Institute (ICI) fund flow reports, which track flows into and out of mutual funds and ETFs, show that investors tend to bail on the buy and hold strategy when faced with losses of this magnitude.
Source: Investment Company Institute, 2017. Past performance does not guarantee future results.
In my 36-year career, I have yet to meet an investor willing to invest in stocks for a 5.4% or 5.8% average rate of return that also have a loss potential of 50% or more. The longer-term viewpoint is particularly important to investors right now who continue to crowd into passive indexes. As Federal Reserve policy shifts from accommodation to tightening and geo political concerns rage, the big bull market returns may turn into a phantom as the bull trend gives way to bear market losses. I believe there is likely to be one more bull run before growth in the U.S. turns into recession and a bear market ensues. Now is the time for investors to re-think their strategy to add risk and capital protection.
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Past performance does not guarantee future results. The views presented are those of Don Schreiber, Jr., and should not be construed as investment advice. Don Schreiber, Jr. or clients of WBI may own stock discussed in this article. All economic and performance information is historical and not indicative of future results. This is not an offer to buy or sell any security. No security or strategy, including those referred to directly or indirectly in this document, is suitable for all accounts or profitable all of the time and there is always the possibility of loss. Moreover, you should not assume that any discussion or information provided here serves as the receipt of, or as a substitute for, personalized investment advice from WBI or from any other investment professional. To the extent that you have any questions regarding the applicability of any specific issue discussed to your individual situation, please consult with WBI or the professional advisor of your choosing. This information is compiled from sources believed to be reliable, accuracy cannot be guaranteed. Information pertaining to WBI’s advisory operations, services, and fees is set forth in WBI’s disclosure statement in Part 2A of Form ADV, a copy of which is available upon request.
ICI makes no express or implied warranties or representations and shall have no liability whatsoever with respect to any ICI data contained herein. This report is not approved, endorsed, reviewed, or produced by ICI.
FAANG: an acronym for the market's five most popular and best-performing tech stocks, namely Facebook, Apple, Amazon, Netflix and Alphabet’s Google. S&P 500 TR Index: includes a representative sample of large-cap U.S. companies in leading industries where all cash payouts (dividends) are reinvested automatically. Russell 3000 TR Index: a market-capitalization weighted index that measures the performance of the largest 3,000 U.S. companies representing approximately 98% of the investable U.S. equity market.
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1 Morningstar, Total Return, 2018.