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By Brian Enyeart, CFA®,* President, Strategic Advisers LLC
In the final months of 2018, stocks declined in the U.S., despite positive economic growth and strong corporate earnings. In particular, uncertainty regarding several concerns drove volatility higher in the final months of 2018, including:
International stocks also had positive corporate earnings. However, a stronger U.S. dollar, and slowing economic growth in Europe and China, weighed on returns.
Lastly, despite modestly higher interest rates driven by positive economic growth and strong employment trends, investment‐grade bonds were flat for the year, outpacing stocks for the first time since 2011.
Even as the United States continues to experience positive economic expansion, we are seeing some signs of a maturing business cycle, including:
During the later phase of an economic cycle, it is common for markets to struggle given increasing uncertainty about the pace of growth and the influence of fiscal policy and overseas growth. This is why after several years of historic market calm, we anticipate higher volatility, as well as positive, but lower, investment returns for stocks and bonds. As a result, we continue to have a modest tilt toward stocks over bonds within most client accounts. However, we have reduced our allocation to stocks in recent months. This has helped to reduce the level of risk in client accounts, and aligned them closer to their long‐term asset allocation mix.
Stock markets in the U.S. declined 14.4% during the fourth quarter. For 2018, U.S. stocks were down 5.3%, finishing in negative territory for the first time since 2008. Small‐ and mid‐sized company stocks underperformed larger company stocks for the quarter and the full‐year period. This reflected investors’ preference for the perceived safety of large, more resilient companies.
For much of the year, growth areas of the market and companies with strong corporate earnings, particularly within the technology and consumer discretionary sectors, posted double‐digit gains. However, these gains were eroded in the final months of the year given rising uncertainty regarding future economic growth and the level of corporate earnings. During this time, more defensive investments, such as certain consumer staples and utilities, rose in value.
For most client accounts, we have less emphasis in these defensive areas, given our view of a growing U.S. economy, as well as their high valuations relative to other types of stocks. We continue to emphasize growth‐oriented stocks in most client accounts. We also favor quality companies that have healthy balance sheets and a more consistent earnings outlook.
International stocks outperformed U.S. stocks during the fourth quarter but lagged for the year, finishing down 14.0%. While most major economies continued to grow, a marked slowdown in the pace of growth in key regions such as China weighed on returns.
Despite recent performance challenges, we still believe that international stocks play an important role in your managed account:
Today, within international stock funds, we continue to favor companies with growing earnings. Recently however, we have slightly decreased our tilt towards growth and increased our exposure to value‐oriented stocks, including those in the financials and materials sectors.
Despite modestly higher interest rates, which can negatively impact bond prices, investment‐grade bonds finished the year flat, returning 0.0%.3 After spending much of the year with slightly negative returns, they rose over the final months of the year. Investors sought the safety and yield that these higher quality bonds, and in particular U.S. Treasuries, can offer. More risk‐oriented bond investments, such as high yield, fell 2.3%.4 High yield bonds were driven lower by:
Meanwhile, short‐term bonds gained 1.9%5 during the year, providing stability to client accounts.
In December, we modestly increased investment‐grade bond fund holdings in most Portfolio Advisory Services client accounts. We reduced exposure to high‐yield bond investments. As the U.S. economy matures, investment grade bonds can help provide stability during periods of market volatility.
* The CFA designation is offered by the CFA Institute. To obtain the CFA charter, candidates must pass three exams demonstrating their competence, integrity, and extensive knowledge in accounting, ethical and professional standards, economics, portfolio management, and security analysis, and must also have at least three years of qualifying work experience, among other requirements.
1 Dow Jones U.S. Total Stock Market Index
2 MSCI® ACWI (All Country World Index) ex USA Index (Net MA tax)
3 Bloomberg Barclays U.S. Aggregate Bond Index
4 Merrill Lynch U.S. High Yield Master II Constrained Index
5 Bloomberg Barclays U.S. 3 Month Treasury Bellwether Index
6 Bloomberg Barclays Municipal Bond Index
Keep in mind that investing involves risk. The value of your investment will fluctuate over time and you may gain or lose money.
Past performance is no guarantee of future results.
Diversification cannot ensure a profit or guarantee against loss.
Indexes are unmanaged. It is not possible to invest directly in an index.
The views expressed in the foregoing commentary were prepared by Strategic Advisers, Inc., based upon information obtained from sources believed to be reliable but not guaranteed. This commentary is for informational purposes only and is not intended to constitute a current or past recommendation, investment advice of any kind, or a solicitation of an offer to buy or sell any securities or investment services. The information and opinions presented are current only as of the date of writing without regard to the date on which you may access this information. All opinions and estimates are subject to change at any time without notice.
Stock values fluctuate in response to the activities of individual companies and to general market and economic conditions.
Foreign investments involve greater risks than U.S. investments, including political and economic risks and the risk of currency fluctuations, all of which may be magnified in emerging markets.
Lower‐quality debt securities involve greater risk of default or price changes due to potential changes in the credit quality of the issuer.
In general, the bond market is volatile, and fixed income securities carry interest‐rate risk. (As interest rates rise, bond prices usually fall, and vice versa. This effect is usually more pronounced for longer‐term securities.) Fixed income securities also carry inflation risk and credit and default risks for both issuers and counterparties. Unlike individual bonds, most bond funds do not have a maturity date, so holding them until maturity to avoid losses caused by price volatility is not possible.
Investments in smaller companies may involve greater risk than those in larger, more well‐known companies.
Because of their narrow focus, sector funds tend to be more volatile than funds that diversify across many sectors and companies.
Securities indexes are unmanaged and are not subject to fees and expenses typically associated with managed accounts or investment funds. Benchmark returns assume the reinvestment of dividends and interest income. Investments cannot be made directly in a broad‐based securities index.
The Dow Jones U.S. Total Stock Market Index is a float‐adjusted, market capitalization–weighted index of all equity securities of U.S.‐headquartered companies with readily available price data.
MSCI ACWI (All Country World Index) ex USA Index (net MA tax) is a market capitalization‐weighted index designed to measure the investable equity market performance for global investors of large & mid‐cap stocks in developed & emerging markets, excluding the United States.
Bloomberg Barclays U.S. Aggregate Bond Index is a market value–weighted index of investment‐grade fixed rate debt issues, including government, corporate, asset– backed, & mortgage–backed securities, with maturities of one year or more.
The Merrill Lynch U.S. High Yield Master II Constrained Index is a market value‐weighted index of all domestic and Yankee high‐yield bonds, including deferred interest bonds and payment‐in‐kind securities. Issues included in the index have maturities of one year or more and have a credit rating lower than BBB‐/Baa3, but are not in default.
Bloomberg Barclays U.S. 3 Month Treasury Bellwether Index is a market value-weighted index of investment-grade fixed-rate public obligations of the U.S. Treasury with maturities of 3 months, excluding zero coupon strips.
The Bloomberg Barclays Municipal Bond Index is an unmanaged, market value–weighted index of investment‐grade municipal bonds with maturities of one year or more.
BLOOMBERG® is a trademark and service mark of Bloomberg Finance L.P. BARCLAYS® is a trademark and service mark of Barclays Bank Plc, used under license.
Fidelity® Wealth Services provides non‐discretionary financial planning and discretionary investment management through one or more Portfolio Advisory Services accounts for a fee.
Advisory services offered by Fidelity Personal and Workplace Advisors LLC (FPWA), a registered investment adviser, and Fidelity Personal Trust Company, FSB (FPTC), a federal savings bank. Nondeposit investment products and trust services offered through FPTC and its affiliates are not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency, are not obligations of any bank, and are subject to risk, including possible loss of principal. Discretionary portfolio management services provided by Strategic Advisers LLC (Strategic Advisers), a registered investment adviser. Brokerage services provided by Fidelity Brokerage Services LLC (FBS), and custodial and related services provided by National Financial Services LLC (NFS), each a member NYSE and SIPC. FPWA, Strategic Advisers, FPTC, FBS, and NFS are Fidelity Investments companies.
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