The first quarter was unlike anything seen in the world’s financial markets.
The markets reached an all-time high in February and when the coronavirus struck, they plunged more than 30%,
including the 13% drop of the Dow Jones on March 16, the second worst day in its history.
At Pacific Investment Management Co., where the Newport Beach-based bond giant that manages
$1.8 trillion in assets, only seven of its 96 funds reported a positive first quarter.
However, Pimco’s Extended Duration Fund (PEDIX) returned an amazing 30% (see page 26).
Out of 33 non-Pimco portfolio funds tracked by the Business Journal, not one had a positive first quarter.
The Business Journal asked seven OC-based wealth managers what they are telling their clients and whether this is a great buying opportunity or as some who sail their boats out of Newport Beach might quip, it’s time to batten the hatches for another big storm. Their edited responses follow.
—Peter J. Brennan
Laura Tarbox
Founder/CEO
Tarbox Family Office
I have always said that risk is the thing you cannot see coming. And the coronavirus was just that.
I founded Tarbox in 1985. Having lived through “Black Monday” in 1987, the “Dot-com Bust” of 2000, and the “Great Recession” of 2008, when the “Corona-crisis” hit I knew just the right thing to do with our clients’ portfolios. Nothing.
Well, almost nothing. We knew our clients were in the right asset mixes for their situations and risk tolerances. We did take the opportunity to tax-loss harvest and rebalance positions. A few clients had been waiting for a good opportunity to move into more aggressive allocations, and we had conversations with them to see if they were ready to do so.
What we told our clients during those weeks when the market went down day after day was: You cannot guess the short or intermediate direction of the market, even if it looks “obvious.”
Over the long term, you will make money staying invested in stocks. Stocks have returned 10% to 12% annualized since 1925.
You have enough money in cash and bonds to pay your living expenses for “X” number of years before you would ever need to sell stocks. For most of our clients this is six to 10 years.
It is already difficult to remember just how scary things looked for a while in late February and March. As of this writing, most of our clients’ accounts are only down about 6% to 8% year-to-date. Some think the market may test the previous lows, but to us it really doesn’t matter. Long term we are bullish on the market—we don’t need to be “right” in the short term to successfully manage portfolios.
David Bahnsen
Founder/Managing Partner
The Bahnsen Group
As the COVID market panic expanded in mid-March, we advised clients that there would be two phases to the drop and two phases to the recovery.
The first phase of the drop was the fundamental realization that corporate earnings and economic conditions were deteriorating. The second phase was what we called the “national margin call”—where the sell-off overreached and forced sellers and leveraged financial players to run for the exits.
We refused to let clients sell in that phase and took advantage of it to buy what we felt were the most dislocated and mispriced investments.
Our belief was then, and remains now, that recovery would come in two phases—the easy part, and then the grind.
The easy part was the quick snap-back that we anticipated after the market meltdown. We didn’t know it would happen this quickly, but we were highly confident a big percentage of recovery would come quickly (history was our guide here), and therefore we couldn’t play this as a “hide in cash and then come back” play.
The second phase of recovery requires more patience. The economic rebound from the COVID lockdowns will very likely zig and zag, and we decided to raise cash from our bond allocations to “average” into equities and alternatives over the next six to nine months.
We would love to be proven wrong here—with the market rebounding in Q3 in a straight line—but we do not anticipate that and find averaging in a more prudent approach as we navigate next steps.
We plan to end 2020 with the same allocation to stocks we started the year with, but with bond positionings much lower and alternatives much higher.
As for stocks, we don’t mind some octane—we have risk in energy names and alternative asset managers—but we are also grateful to have gotten another bite of the apple of high-quality names trading with juicy yields that we are highly confident will sustain and grow their dividends throughout this period.
Debashi Chowdhury
President
Canterbury Consulting
In general, we have not been recommending material changes to long-term portfolios as a long-term asset allocation strategy is constructed to get through periods like this.
This is certainly easier said than done as the innate feeling to react during periods of acute volatility is difficult to overcome.
However, one should look to the current environment as a place for investment opportunities. The level of volatility and selling across both equity and credit markets has come close to, and in some cases, exceeded historical highs.
Starting in late March, we worked with clients to rebalance their portfolios back to their long-term targets which entailed reducing their overweight to fixed income and adding capital to their equity positions.
We also used the opportunity to allocate to high yield and corporate credit, which had sold off materially in March—spreads in high yield hit 1,000 basis points!
Historically, when spreads widen to 1,000 basis points, return potential in the following three years has been in the double digits. We are also focused on opportunities in the distressed credit markets, private capital, and the various opportunistic hedge funds.
Time is an extraordinarily powerful tool that one must exploit to mitigate the inevitable short-term volatility of these asset classes.
Caleb Silsby
Chief Portfolio Manager
Whittier Trust
This year already feels longer than most. E-commerce is booming and the work-from-home shift is requiring investment in tech hardware and software. The strength of the largest companies in the U.S. (Microsoft, Amazon, Apple, Google, etc.) is masking the broader challenges facing many companies and landlords around the country.
Small cap stocks are down far more than the large companies mentioned above and are more closely related to the financial challenges that many Americans are facing. This divide explains that oft asked question around why there is a disconnect between Wall Street and main street.
Given the uncertainty, we are often asked where to invest capital. Our answer is to focus on quality companies with clean balance sheets. Companies with high debt levels will struggle to make it through this recession, while those with cash reserves may emerge stronger.
Well-managed companies will endure as good investments over the long-run and will live to see life beyond COVID-19. Additionally, the Federal Reserve has provided life support to the market going beyond the scope of the response to the Great Financial Crisis in a way that makes it unlikely that the market will re-test the lows from March of this year.
Shannon Eusey
Founder/CEO
Beacon Pointe
It is important to remain steadfast in our long-term strategy and remember that patience and discipline are key ingredients of successful long-term investing. It is also important to keep perspective and remember that crisis events are certainly not a new market phenomenon—there have been and will be points in time when fear overshadows rational thinking, resulting in extreme short-term market gyrations.
During this time, Beacon Pointe prefers credit markets to equities. We continue adding to fixed income positions with some credit risk exposure in corporate and municipal bonds.
Within equities, we favor U.S. stocks over international developed and emerging markets, large cap over small, and growth over value. These positions are based on our view that in a post-COVID world:
• The U.S. is best positioned to fund the necessary massive economic stimulus given our reserve currency status, credible, independent and activist central bank, and greater debt capacity.
• Smaller companies have fewer financing options and a liquidity issue more easily morphs into a solvency issue versus large caps.
• In terms of industries, tech and healthcare are favored—the composition of the growth index is better positioned in this difficult and uncertain transition to a “new normal” even though value is historically cheap.
In the alternatives arena, we reduced our exposure to certain real estate sectors given the uncertainties over demand for office space and remain void of commodities.
As of mid-May, we are neutral or slightly underweight risk in terms of growth assets, but with a meaningful tilt to credit. We feel well positioned to withstand additional, expected equity-related volatility in the portfolio, yet will also benefit by our exposure to markets that are supported by the Federal Reserve. “Buy what the government is buying” will remain a fundamental feature of our investment thesis.
The stock market seems to be quite satisfied that the worst is over.
In our view, the market is pricing in a “V”-shaped recovery—one of the possibilities we have identified, and the most hopeful. But in a world of Knightian uncertainty, our level of confidence in this forecast is not high. More likely we will get a “U”-shaped recovery that unfolds more slowly, and with the occasional setback that causes investors to question the “V” thesis.
Taking the letter theme to the extreme, “W” might be closer to our view. In which case we should expect market volatility to continue.
Andrew Fuller
Managing
Director
Creative Planning
A full and complete recovery is the outcome to the pandemic. The only question is when. A healthcare crisis requires a healthcare solution and until then the markets will remain volatile. If tomorrow a therapeutic reduces mortality dramatically, the market would be up massively. Likewise, a sustained second wave of infection could put the market into a tailspin. The patient investor uses this to their advantage.
There is no disconnect between the market rising and the economy struggling. True, the largest companies are rallying, but not the whole market. Small and medium sized public companies are still off -15% to -20% on the year. This makes sense. If your local coffee shop goes out of business, you will likely switch to a national chain like Starbucks. So, larger firms benefit.
Some point to negative earnings growth to say even large stocks are behaving oddly. However, data shows the most common outcome following an earnings retreat is a higher market 12 months later.
Never have indicators been so useless—and they aren’t very useful to begin with. Unemployment, earnings estimates, and GDP growth do not mean today what they usually mean. We are, however, watching interest rates as bonds are riskier today than many people think.
With interest rates back at lows, investors should start by reconsidering how much they should have in bonds. Our view, bonds should be used to cover known needs in the coming five or so years. Buying stocks instead, specifically smaller stocks that tend to outperform following a recession, may make sense. For investors who qualify, alternatives such as life settlements and private lending may reduce risk and improve returns as well.
Tim Mulroy
Managing Partner
Northwestern Mutual
There is no doubt that this global pandemic has brought more uncertainty than many of our clients have ever seen in their lifetimes.
We operate from a cohesive plan that considers what could go right or wrong. Throughout the market turbulence, we have been rebalancing, tax loss harvesting, being opportunistic with cash on the sidelines, all while consistently updating our clients’ financial plans. When you have a clear goal and a solid plan, uncertainty becomes opportunity.
Northwestern Mutual also pivoted early in the crisis to help accommodate those that were struggling and to make it easier to apply for the insurance our clients needed.
As it relates to the virus, I’ve always been a data junkie and I keep a close eye on new cases and other relevant trends. It certainly looks like social distancing and shelter in place have played a key part in where we are, but with so much still unknown, it’s hard to predict where we go from here. From a financial planning standpoint, the message never changes:
• Know what you want
• Craft a step-by-step plan to move closer to your goals each day/month/year
• Measure progress
• Have a contingency plan
With these four key steps, the long-term prognosis for success is improved. I’m an optimist and I’ll bet on people over any long-term period. We will get through this together.
