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The Sandy Spring Way

Why were investors turning to stocks?

January 14th, 2013 | By Beau Mercer

Brian Oettinger

Why were investors turning to stocks? Was it the generally strong performance of stock market indices during 2012 or something else? Theories were abundant. Some speculated that the surge signaled:

  • Renewed confidence in the American economy
  • Relief that capital gains and dividend taxes remained constant for middle income Americans
  • Faith in the ability of the American government to get things done
  • Lack of attractive investment alternatives as the average yield on high-yield bonds fell below 6% for the first time ever

There also was much discussion during the week about the contradictory messages coming from the Federal Reserve. The Evan’s Rule, which was named after the head of the Chicago Federal Reserve Bank, was established late in 2012. It ties interest rate guidance to employment and inflation targets rather than calendar dates; a change many had interpreted to mean that monetary policy would remain accommodative into 2014.

Interest rates are just one tool the Fed has been using to encourage economic growth. It also has been engaging in quantitative easing (QE) which is purchasing Treasuries on the open market to inject capital into the economy and encourage growth. Last week’s Federal Open Market Committee meeting notes indicated there was discussion among Fed members about ending quantitative easing earlier than expected, possibly before 2014.

So, which is it? Will policy remain accommodative or will it start to tighten? We may not know for sure for some time. The good news, according to Barron’s, is that tightening monetary policy would not be all bad news. “The end of quantitative easing would mean that the Fed sees sustainable economic growth in the U.S. – and globally.”

Data as of 01/11/13 1-Week YTD 1-Year 3-Year 5-Year 10-Year
Standard & Poor’s 500 (Domestic Stocks)

0.4%

3.2%

13.9%

8.7%

1.0%

4.7%

DJ Global ex US (Foreign Stocks)

1.0

3.0

19.0

4.3

-0.9

10.6

10-year Treasury Note (Yield Only)

1.9

NA

1.9

3.8

3.8

4.1

Gold (per ounce)

0.6

-2.1

1.4

12.9

13.2

16.7

DJ-UBS Commodity Index

0.6

-0.4

-3.2

-0.8

-6.1

2.0

DJ Equity All REIT TR Index

0.7

2.4

20.6

18.7

7.8

12.2

Notes: S&P 500, DJ Global ex US, Gold, DJ-UBS Commodity Index returns exclude reinvested dividends (gold does not pay a dividend) and the three-, five-, & 10-year returns are annualized; the DJ Equity All REIT TR Index does include reinvested dividends and the three-, five-, & 10-year returns are annualized; and the 10-year Treasury Note is simply the yield at the close of the day on each of the historical time periods

Sources: Yahoo! Finance, Barron’s, djindexes.com, London Bullion Market Association
Past performance is no guarantee of future results. Indices are unmanaged and cannot be invested into directly. N/A means not applicable.

Sage investment advice…

Almost two decades ago, the CFA Institute published an article that included a letter from a father who was a financial professional to his daughter. His missive included some timeless and practical advice about investing. Among the thoughts he shared with his daughter were the following principles for investing:

  • A fool and his money are soon parted.
    Pay close attention to financial matters because investment capital is a perishable commodity when not managed properly.
  • There is no free lunch.
    Risk and return are interrelated. Generally, the greater the risk, the greater the potential return and vice versa.
  • Know thyself.
    Be honest in assessing your risk tolerance because it’s easy to underestimate the stress of a high-risk portfolio when markets move south.
  • Don’t put all your eggs in one basket.
    Diversification helps determine potential rates of return and manage exposure to risk. Make sure you have a well-diversified and well-allocated portfolio.
  • Take the long view.
    Make a plan and stay with it. Don’t let short-term market fluctuation or media-fueled frenzies cause you to panic. Investment decisions should result from a rational trade-off of risk and return. Unfortunately, those decisions often reflect fear and anxiety about current events.
  • Remember the value of common sense.
    Investing is not a competitive sport. It should be an effort to achieve a pre-determined financial goal within a specific risk-tolerance framework. No system works all of the time and you should not expect it to.

Sound financial advice may prove particularly important during 2013. During the fourth quarter of 2012, markets were volatile as Congress argued fiscal cliff issues. The solution – The American Taxpayer Relief Act of 2012 – resolved matters related to taxation, but left spending issues to be hammered out in the future. As a result, we may see additional volatility during the first few months of this year. If you begin to experience fear and anxiety when listening to news reports or checking market performance, just review the principles above!

Weekly Focus – Think About It

“If you want to be successful, it’s just this simple. Know what you are doing. Love what you are doing. And believe in what you are doing. ”

–Will Rogers, humorist and social commentator