Fourth Quarter Review
After a short dip to start the fourth quarter, the stock market moved strongly higher through the end of November. The marked moved sideways during December, never giving up any substantial ground. What a remarkable year for the stock market! Despite some choppiness, every quarter this year has had positive equity returns!
The S&P 500 finished up over 30% for the year. The last time the S&P accomplished that feat was all the way back in 1997. That was quite a while ago. In fact, it was the longest streak without a 30% up year since the drought from 1959 to 1974. The 10.5% return in the fourth quarter made that possible.
Other asset classes didn’t fare as well as equities in 2013. Continuing to fear tapering by the Federal Reserve, the bond market was lackluster during the final three months of the year. Many broad fixed income indexes finished 2013 with losses. Other asset classes, like commodities, performed poorly as well. Gold, in particular, had a very difficult year after being a darling of the fear mongers for many years. Diversification, which provided improved returns over the past few years, was definitely not the way to go in 2013. It was all about equities.
Economic growth may be starting to pick up. The final estimate for Q3 GDP growth is now 4.1%. That’s stronger annual growth than we’ve seen for at least six quarters. Another positive is the Conference Board’s Leading Economic Index, which is up 3.1% over the past six months. Industrial capacity utilization is still slack and employment still fairly weak, suggesting that there will be little pressure on consumer prices for now.
Although there was some political wrangling about the government healthcare website, the big story for the market this quarter was the December Fed meeting. Would the Fed taper or not? The stock and bond markets both seemed apprehensive that the Fed would decide to reduce bond purchases, especially given the negative market reaction in May. In the end, the Fed decided to taper slightly—and the stock market vaulted upward.
Part of the explanation may have been that the taper was more modest than expected, but a bigger factor was likely the Federal Reserve making it clear that its low interest rate policy would continue even after employment begins to pick up. Although a new Fed chair, Janet Yellen, is scheduled to be installed in January, observers don’t expect significant policy changes. The stock market seems to like quantitative easing and there is no end in sight.
While all of this is good news for equities some people are beginning to wonder if we have reached the end of the bull market. The S&P 500 closed the year at an all-time high. It has only done that five times since 1929, so it is a rare event. The good news is that, according to Standard and Poor’s, equities were up an average of 8.5% in the years following a close at an all-time high. The base rates were also good with equities being up four out of those five years.
We also aren’t seeing the type of euphoria from retail investors that often accompanies major market tops. In a recent survey, Blackrock found that affluent investors were holding 48% of their investable assets in cash! This despite expressing greater confidence about their financial futures. Their allocation to equities was only 18% in the survey. During the late 1990’s stock assets were closer to 40%, so despite reaching all-time highs equities are still not universally loved.
We are heading into the part of the cycle that tends to be very good for relative strength. We believe equities can continue to deliver solid returns, and as the market narrows that should be a major positive for our methodology. As always, we continue to focus on implementing our process in the most disciplined way possible, and if you have any questions we are always happy to speak with you about them.