How Good is Your Investment Forsight?

img.jpg

Whenever we start a new year, investors like to talk about numbers and predictions.  Here is a very short quiz to give you some numbers to talk about with your friends.

1) Which of the following investment asset classes performed the best in 2014?

a.    U.S. Large Company Stocks

b.    U.S. Small Company stocks

c.    International Large Company Stocks

d.    Emerging Market Stocks (includes China)

e.    U.S. Real Estate Investment Trusts (REITS)

f.     U.S. Bonds

2) Which performed the worst?

a.    U.S. Large Company Stocks

b.    U.S. Small Company stocks

c.    International Large Company Stocks

d.    Emerging Market Stocks (includes China)

e.    U.S. Real Estate Investment Trusts (REITS)

f.     U.S. Bonds

3) Which fixed income sector yielded the best return in 2014?

a.    Municipal Bonds

b.    Global High-yield Bonds

c.    Treasury Bonds

d.    Emerging Market Debt

4) The U.S. Stock Market, as measured by the S&P 500 index, fell to 677 on March 9, 2009.  On that day the S&P 500 forward looking price to earnings ratio was 10.3.  At the end of 2014, the S&P 500 was up by 204% to a record year-end high of 2,059.  What was the S&P 500’s forward looking price to earnings ratio at the end of 2014 and how does it compare to the average P/E ratio over the past 20 years?

5) What do you think interest rates will do in 2015 and what should bond holders watch out for?

Answers:

1) E. The best performing asset class in 2014 of those listed was REITS, which gained 28.0% for the year as measured by the NAREIT Equity REIT Index.  REITS were followed by U.S. Large Company Stocks (the S&P 500 was up 13.7%), Bonds (the Barclay’s Aggregate was up6.0%), U.S. Small Company Stocks (the Russell 2000 was up 4.9%),  Emerging Markets Stocks (the MSCI EME Index was down -1.8%), and International Large Company Stocks (the MSCI EAFE was down -4.5%).  It is interesting to note that the International and Emerging Market Stocks were down when measured in U.S. Dollars, but they were both actually up for the year (+6.4% and +5.6% respectively) when measured in their local currency.

2) C. International Large Company Stocks(see explanation above)

3) A. Municipal Bonds, as measured by the Barclay’s 10-year Muni Bond Index, came in first with a return of 8.7%. Next in order were emerging market debt (Barclays Emerging Debt USD was up 7.4%), Treasury Bonds (Barclays U.S. Treasury Index was up 5.1%), and Global High-Yield (Barclays Global Corporate High Yield Index was flat).

4) 16.2, Average. The forward-looking P/E ratio for the S&P 500 at the end of 2014 was 16.2, which is very close to the average of 16.1 forward-looking P/E ratio for the S&P 500 over the past 20 years.

5) The general consensus is that the Federal Reserve will begin to raise interest rates this summer, perhaps in 0.25% increments.  This could mean that short-term U.S. Treasury Bill rates that are now round 0.04 % will be closer to 1.0% by the end of the year.  Rising interest rates mean lower bond prices, especially for longer-term bonds. Wise investors know that predicting interest rate changes is an impossible task, so they are reducing their interest-rate risk by cutting back on their exposure to long-term bonds.

The takeaway from all this data is to be diversified.  Nobody can predict future stock and bond prices or know ahead of time which asset classes will go up and which will go down.  Diversification is a wise way to reduce your portfolio risk.

Kenneth B. Petersen CFP®, EA, MBA, AIFA® is an investment manager and Principal of Monterey Private Wealth, Inc., a Wealth Management Firm in Monterey.   He welcomes questions that you may have concerning investing, taxes, retirement, or estate planning.  Send your questions to: Ken Petersen, 2340 Garden Road Suite 202, Monterey, CA93940 or email them to ken@montereypw.com.