Q1 2020 Client Letter
Dear Ascent Client:
We are living through an extraordinary period in history. The impact on our families, communities, and country has been profound. The United States and world are now facing the dual threats of a health crisis and an economic crisis. Both need to be fought with monumental government policy responses and individual behavioral changes. While the news may seem dark and hopeless at times, we will get through this crisis period. Things will improve and recover. This too shall pass. Most importantly, we sincerely hope you and yours are able to remain healthy and manage well through this challenging time.
The first quarter of 2020 was an unprecedented period in U.S. financial market history across numerous dimensions. We just witnessed the fastest 30% decline from a recent high on record for the S&P 500 (in only 30 days). We have experienced historic volatility. And 10-year and 30-year Treasury yields recently dropped to all-time lows.
Here are more details on asset class performance this quarter: Larger-cap U.S. stocks fell 20%, having rebounded a bit from their historic drop. Smaller-cap U.S. stocks did even worse, falling 31%. Developed international stocks and emerging-market stocks both fell around 24%. U.S. core bonds gained just over 3%, once again playing their key role as portfolio ballast against sharp, shorter-term stock market declines. U.S. Treasury bonds performed even better. But investment-grade corporate bonds were far from immune, losing over 4%. Trend-following managed futures were a bright spot: they produced gains in the upper single digits.
While this quarter’s performance is dramatic, it is important to remember that it is just one quarter and should be viewed within the context of your longer-term investment plan.
Health & Economic Crisis Update: The Medical and Policy Response
The near-term economic damage from the United States’ and other countries’ response to the coronavirus outbreak now looks almost certain to be severe. GDP is expected to sharply contract, potentially by historic proportions, and unemployment is expected to rise to levels never seen before. The consensus agrees but appears to believe the recession will also be short in duration. However, a so-called V-shape recovery is by no means a sure thing. To the extent stock markets are not fully discounting a more severe economic outcome, stock prices could fall further.
The depth and duration of the recession—and the speed of the recovery—depends on the effectiveness of our medical and policy responses. A medical resolution is a “known unknown.” But the Federal Reserve and other major central banks seem to be all-in to support the fluid functioning of financial markets—the “plumbing” of the real economy. At the same time, governments around the globe understand something massive needs to be done quickly on the fiscal policy side. On March 27, Congress passed, and the president signed into law, a $2 trillion stimulus package. Similar support measures are being implemented around the world. Discussions continue about additional steps to take in support of markets and the economy.
This quarter, portfolios will reflect the sharp short-term declines in global stock markets. Treasuries and managed futures were areas of positive returns during the quarter, offsetting some of the equity declines. But even this level of diversification was not able to completely counter a steep and quick equity downturn.
Yet when stock prices—or any asset’s prices—drop, forward-looking returns generally rise. Our outlook for U.S. stock returns improved with cheaper valuations. So, in mid-March we began taking advantage of this bear market by adding a small allocation back to U.S. stocks at better prices, reducing our previous underweight but still not reaching our full neutral allocation to equities.
As markets have dropped further, we have assessed the next point at which we’d want to add back another increment to U.S. stocks. Every day we incorporate new information into our analysis, but at the current time, we are looking to buy at a price level where our base-case five-year expected return for U.S. stocks is in line with or somewhat better than their long-term historical average return. We believe that is sufficient compensation to warrant a neutral or full strategic weight. And if stock markets fall further, we will move to an overweight to stocks overall once the odds of above-average returns are favorable.
Partnering with You
While we cannot control the virus or markets, there are things we can control—in our daily lives and in our financial decisions.
First among them, of course, is to focus on your health and the health of your loved ones. Follow the containment measures set out for us, get a good night’s sleep, and try to stay forward-looking and positive. That will keep you ready for what each new day may bring. Consider taking a break from the sensationalized 24-hour news cycle, a lot of which is aimed at attracting viewers for advertisers. It can be overwhelming at times and can lead to unnecessary stress and anxiety. We at Ascent Capital are practicing this ourselves.
In terms of your finances, we’ll want to work with you to determine whether you have the right amount of cash set aside for your foreseeable near-term needs, especially since the duration of this crisis is a big question mark. Setting a bit more cash aside in your emergency fund can give you peace of mind. It also assures you won’t have to draw from a portfolio invested for the long term at an inopportune time in the markets.
We may also want to revisit your financial planning projections to ensure your spending plan remains sustainable into the future. Lowering spending and other changes this year could actually positively impact your financial situation. Contact your advisor to plan a time to explore this further.
In the meantime, if you have taxable investment accounts, we may be able to realize losses that can be used to offset future taxable gains, while maintaining your portfolio allocation. Although investments that temporarily decline below their purchase price are disappointing, the upside is we can take advantage of this to harvest tax losses.
Finally, on the investing side, it’s paramount to stay disciplined and not invest based on emotions. A downturn is the time to add to, not sell off, stocks, and other long-term growth assets. We are here to help you stay true to your investment strategy guidelines, both for existing investments and for any funds you planned on investing over time.
The world has endured severe challenges and economic downturns in the past and has always weathered the storm. We are all facing unique risks and unknowns today, but we will bet on our resilience. We are here to provide support so you can stay the course.