Summary of 4th Quarter and 2017 Performance
Today (12/29/2017) marked the last trading day of 2017, and stocks across the board continued to impress. US stocks turned in their ninth consecutive year (and coincidentally, their ninth consecutive quarter) of increases. The table below summarizes the estimated returns for various asset classes based on the performance of Vanguard index funds. Please note that they do not represent the returns of the portfolios recommended by Clarity Capital Advisors.
Asset Class Ticker Used 4Q/2017 Return 2017 Return
US Total Market VITNX 6.4% 21.2%
US Large Growth VIGAX 6.2% 27.9%
US Large Value VVIAX 4.2% 17.2%
US Small Growth VSGAX 5.8% 22.0%
US Small Value VSIAX 4.6% 11.9%
International VTMGX 4.5% 26.5%
Emerging Markets VEMAX 6.3% 31.5%
US Real Estate VGSLX 1.4% 5.0%
Int’l Real Estate VGRLX 5.4% 26.5%
US Bond Market VBTLX 0.2% 3.5%
US TIPS VAIPX 1.2% 2.9%
Among US stocks, the clear winner for 2017 was large growth which benefited from a 37% gain in information technology stocks (based on VITAX). An article in today’s Wall Street Journal, “Index Funds Turn Top-Heavy with Tech”, expresses concern about the increased weight of technology in widely followed indexes like the S&P 500, comparing it to the dot-com bubble. The laggard industrial sectors for 2017 were telecommunications (down 5.6% based on VTCAX) and energy (down 2.4% based on VENAX).
At the risk of sounding like a broken record, we will again note that US stock valuations (based on the Shiller cyclically-adjusted price-to-earnings ratio) are at historically high levels. As of today, they are about 20% higher than they were just prior to the meltdown of 2007-2009. The only time they have been higher was in the two years prior to the dot com crash of 2000-2002 (based on data from www.multpl.com).
The strong performance of international and emerging markets is partly explained by a weakening of the US dollar, as measured by the US Dollar Index (DXY) which was down about 10% for the year. Using price-to-book ratio as a measure of valuation, American stocks (P/B = 3.0, based on VITNX) remain substantially higher than international (P/B = 1.7, based on VTMGX) and emerging markets (P/B = 1.8, based on VEMAX). Of course, we can proffer myriads of arguments that the US deserves its higher valuation. For example, what other country is friendlier to both investors and innovators?
As seen in the table above, bonds had a rather unexciting year, which is fine given that interest rates continue to remain at historically low levels. The ten-year Treasury yield began and ended the year at about 2.4% with minor volatility in the interim. The real rate of interest (the yield on inflation-protected bonds) is about 0.4%, meaning that the market is forecasting about 2% inflation for the next ten years. We will not argue with that, nor will we argue with the Fed policy of further planned increases to the federal funds rate. The market appears to be fine with all of it.
In closing, we will repeat and expand on the conclusion to our summary of 3Q/2017. At Clarity, we believe that a prudent way for investors to engage with this market is by starting with a sensible allocation and rebalancing when warranted. A sensible allocation is one that the investor would not abandon in the event of a bear market. Rebalancing is best accomplished with cash flows—investing deposits in underweight asset classes and selling from overweight asset classes to meet withdrawal needs. However, if there are no cash flows, rebalancing may still be sensible, even in the event of tax consequences.