Changing of the guard
The list of differences between now and pre-COVID are lengthy, as are the litany of policy changes, geopolitical conflicts, economic cycles, and the myriad of other shifting landscapes in the world over the last 5 years. But, the world keeps turning. Rome fell. The Americas were colonized and then lost. New nations form. The industrial revolution set a new trajectory for humanity. More nations fall and rise. Electricity and the internet affect culture and our daily life. The list of historical changes is endless, and we should expect changes to continue. To navigate this inevitability, investors must be humble enough to modify an investing approach but not so fickle as to shift with the blowing wind. Let’s dive in.
Economic Review and the Trump Presidency.
The economy appears relatively healthy with US consumers – the backbone of our economy – showing resiliency despite inflation and higher rates over the past few years. Fortunately, we have now had 20 months of year-over-year wage growth exceeding inflation (real wage growth), so from many perspectives, the economy looks to be in decent shape as we begin 2025. As indicated from the jobs report on January 10, the labor market continues to be strong in the face of higher rates. Companies – by and large - are simply still growing and hiring.
So far, the US economy seems to have avoided a hard landing and is allowing the Fed to slowly cut rates on a go-forward basis. However, concerns surrounding a bounce back in inflation remain depending on the Trump Administration’s tariff and trade policies.
The Trump Administration marks a significant shift from the Biden administration in seemingly every facet of US policy, of which, some could have material effects – both positive and negative – on the economy and various industries. The obvious positives are that Trump seems to care about economic and market performance as a barometer of success, while Wall Street also believes that this Presidency will be very pro-growth and business friendly, but it will not be without obstacles.
Perhaps the most significant obstacle for the Trump Administration’s economic initiatives is the difficulty of balancing pro-growth policy initiatives with the desire to reduce government spending and prevent a bounce back in inflation. That’s an incredibly difficult task that could encounter short-term economic pain despite having positive long-term consequences. The large US Federal deficits have helped add to US GDP growth, but those budget deficits are unsustainable in the long run, so something must change. Tariffs can help close the deficit, but it will almost certainly lead to upward pricing pressures and a potential for even higher rates or a longer Fed pause than expected. Outside of potential geopolitical conflict and trade wars, Trump’s primary challenge will require navigating a careful balance between inflationary versus pro-growth policies.
Another challenge has Trump is inheriting a rather pricey US stock market by almost any standard, and the market seems to be expecting economic growth to continue and is priced accordingly. It should not be lost on us that the US stock market returns have been historically good since 2009, and while positive returns are still expected over a long-term period, the short-term is often more uncertain.
So, outside of the basic principles of investing, what else can investors do at this juncture?
1) Rebalance Portfolios. When equities rise (or fall) significantly over time, there is often an inflection point that should warrant a rebalance to ensure asset classes are more closely aligned with their targets. Ideally, this should entail both asset classes at a high level (stocks and bonds) as well as more granular allocation rebalancing across value vs growth, domestic vs international, large cap vs small, and short-term vs intermediate-term fixed income.
2) Reevaluate Investor Objectives. Whenever the market runs up significantly over time, it’s important to evaluate whether the overall portfolio allocation still makes sense and is aligned with an investor’s objectives, especially if retirement (or another major life change) is approaching within the next few years.
3) Diversify Fixed Income. Many investors have avoided fixed income this past decade. Inferior returns, falling values amidst rate hikes, and sky-high stock market returns have contributed to the abandonment of fixed income in many portfolios. Instead, investors have further added to cash and equities or alternative income investments. We believe the timing is good for many investors to consider adding to core, high quality fixed income that can provide attractive risk-adjusted returns, preservation of principal, and upside potential in a recessionary economic scenario.
4) Have a Plan to Invest Cash. Over the long term, cash generally does not keep up with inflation or provide enough growth to help investors meet their objectives. For long-term objectives, investors should ensure their cash is being put to work for the longer-term in a prudent portfolio even if the investment is not perfectly time. Investing large amounts of cash over a set period instead of all at once can help mitigate the risk of a sudden drop in the markets, but it is not a guarantee of better returns.
5) Expect More Modest Returns. Whether you read Vanguard, Goldman Sachs, or another financial institution’s 10-year return estimates (2025-2034), they all lean towards lower returns in equities and higher returns in bonds and cash than we’ve been accustomed to over the past 10 to 15 years. Although these are estimates based on current valuations and future growth, the predictions assume a different market environment going forward than what investors have experienced over the past 15 years following the Great Financial Crisis of 2008 and 2009.
A New Era.
Being proactive by rebalancing portfolios, reevaluating objectives, diversifying fixed income, and having a plan to invest cash can help navigate the “change of the guard” both economically and politically. And although there is no guarantee of success with any given strategy, understanding historical trends and current data combined with a prudent approach to portfolio management can help mitigate risk and improve investor outcomes. Although I hope we – and many others - are wrong, investors should expect more modest returns over the next decade from equity markets.
We thoroughly enjoy the relationships we’ve built over these past 9 years and the confidence our clients have in us to assist in the pursuit of their objectives. It is a privilege every day to serve our client families with excellence, prudence, and diligence to ensure they are getting world-class advice and planning as they navigate the inevitable changes in life.
As always, we’re here to help you and others you care about.