We wanted to share with you some background on why we invest in balanced portfolios. During periods like February 19 through February 28, 2020, when the stock market comes under pressure, bonds tend to perform quite well. Over this period, the S&P 500 was down 12.4%, the Nasdaq was down 13.2%, and the Dow Jones was down 13.3%. The Barclays Aggregate Bond Index however was up 1.6% during this period. Because of this inversely correlated relationship between stocks and fixed income, fixed income in a portfolio serves a number of purposes:
- It reduces volatility, meaning a portfolio with both stocks and bonds will typically not sell off as much as an all stock portfolio during periods of stress.
- It provides an opportunity to take advantage of market selloffs, meaning that after a sharp draw down in equities, some of the fixed income within a portfolio can be sold to purchase stocks at lower prices and bring down the overall cost basis of the portfolio. This type of rebalancing may also help a portfolio return to its previous highs more quickly.
- It provides a source of capital should distributions be required from the account during a period when stocks are down, allowing the stocks in the account time to recover from their losses.
While we did not “predict” the sharp selloff the market has just experienced, it did not surprise us either. It is actually quite common for the stock market to experience an intra-year drop of 10% or greater. A drop of 20% is less common, but also not unheard of. Because timing the market is an exercise that often leads to undesirable outcomes, we do not engage in the practice. However, that does not mean that we will not engage in tactical rebalancing. Tactical rebalancing is “short-term” reallocation to take advantage of market anomalies, like a sudden, sharp drop in the stock market. Because we do not expect the Corona Virus to create long-term disruptions to the economy, we believe this pullback may be an opportunity to tactically reallocate portfolios adding to stock positions within portfolios at very attractive prices.
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