2013 is a wrap! What a year it was if you invested
solely in US stocks. Just a guess, but I would wager some investors
probably will think now is a good time to get undiversified. That could
work in 2014, maybe even longer, but ultimately other asset classes will begin
to outperform and a diversified portfolio will provide good relative returns
with lower volatility.
But that discussion is for another day. Below are some
observations on ETFs (listed at the top) we look at that yielded positive
returns last year. I used this
file to help make those observations. For each ETF, I summarized 2013,
and then outlined what should happen moving forward, based on the
following thesis:
Growth should accelerate and, despite the “taper”, given the benign inflation outlook the Fed should stay accommodative, which would provide a good tailwind to stocks along with a reduction in systemic risk. Still relative valuations in the US, particularly small caps, are now higher and at or slightly above their near-term average and the prospect of rising interest rates could pose a threat. On a relative value basis, international markets look attractive where developed market growth should also pick up and while emerging markets face secular headwinds they do appear cheap. The aforementioned backdrop should cause long quality US interest rates to rise and strengthen the dollar; however, other countries could embark on programs to bring long rates down.Will all that happen? Probably not, but these are my conclusions based on the current environment. Of course as the markets and facts change so will the above thesis; in other words, as I have pointed out before, nothing is static.
Making predictions is a futile business, so what I attempt
to do is make assumptions (i.e. NOT a price target) based on a more global thesis
like the aforementioned, with the caveat that when things change portfolio and
thesis adjustments will be made accordingly…
- IWM – 2013: US Small Cap stocks were best in show and never came close to breaking their intermediate-term uptrend (roughly 10% above the 10-month moving average). Small Caps leading Large Caps is a good sign to market observers, though they also lagged a bit (still up over 8%) in Q4 and is something to keep an eye on. Moving Forward: This equity market segment seems relatively pricey to others and above average. While the environment is conducive toward continued appreciation, I prefer higher quality companies with strong balance sheets that tend to land in the large cap space (SPY) in case some of those conditions reverse or something unforeseen happens. Still, the trend in US stocks (this includes SPY) is overwhelmingly positive and as a result our risk metrics have not been triggered, in fact IWM and SPY are far from them. So until the environment changes or the risk metrics tell us otherwise it’s difficult to go against the market.
- IVW – 2013: Growth had little difference from the Value stocks ETF, thus if you were invested in stocks it really didn’t matter much. Moving Forward: see SPY/IWM.
- SPY – 2013: The S&P 500 ETF that everyone looks at really ripped and was up over 30% on a total return basis. Q4 was also the strongest quarter of the year and the index hit its high in the last week of the year. Like IWM, SPY never came close to breaking its intermediate-term uptrend. Moving Forward: See IWM, though valuations are more reasonable than small caps and probably at their average. I will again note, I prefer the quality companies moving forward that capture part of the up move, but also avoid some of the down move in the event the market reverses course. Lastly, a major fundamental equity concern is what happens as interest rates rise; however, in this environment rising interest rates have historically been a benefit to stocks.
- IVE – 2013: see IVW. Moving Forward: see SPY/IWM.
- EFA – 2013: Investing in developed international market stocks netted 20%+ though still had a decent lag relative to domestic stocks. The ETF is also still below its 2007 peak, but it’s close to making a new high on a total return basis. Moving Forward: Looking at prior returns and research, these markets tend to be a better relative value than our own stock market. What this doesn’t mean is that outperformance will happen overnight. Further, the trend is NOT your friend. What it does mean is that there are some opportunities here, especially as growth in those economies picks up.
- USO – 2013: This is the first significant relative underperformance as the oil ETF’s return was a tad under 6%. Moving Forward: Typically cyclical commodities tend to rally more late equity cycle (see big Oil rise in 2007 and 2008 before it cratered), so assuming the equity market rally still has legs, I would expect the lag to continue. Further, many investment based countries (e.g. China) are trying to shift to a more balanced economy.
- HYG – 2013: Only bond asset class up for the year, which isn’t surprising given high yield is more correlated with equities and has minimal duration risk. Moving Forward: Environment should still be supportive. However, while spreads (the difference between Treasuries and a similar high yield bond) have been narrower before, I do wonder how much juice is left in the squeeze? Just be careful as high yield bonds won’t provide a hedge if riskier assets stumble.
- IYR – 2013: Logic would dictate real estate would perform better given a big bullish economic story last year was the increase in home prices, but IYR barely finished the year in the black. The chart looks eerily similar to the Treasury ETF, so there appears to be a correlation with interest rates. Plus REITs outperformed stocks every calendar year since 2009 except last year, so maybe much of those gains were priced in. Moving Forward: The correlation between real estate and stocks broke down for much of 2013, but did move together prior to that. Still, steadily rising interest rates with minimal inflation should result in lackluster performance and a loose correlation with bonds.
The views
and opinions expressed herein are those of the author(s) noted and may or may
not represent the views of Capital Analysts, Inc. or Lincoln Investment. The material presented is provided for
informational purposes only. Nothing contained herein should be construed as a
recommendation to buy or sell any securities. As with all investments, past
performance is no guarantee of future results. No person or system can predict
the market. All investments are subject to risk, including the risk of
principal loss.
