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Recovery Picks up Steam
Plus Q1 Market Report

John Gorlow | Apr 23, 2021
John_12.18.20_Crop_A

The first quarter of 2021 fueled hopes for a strong 2021 market recovery. The Dow finished up 7.8%, the S&P gained 5.8%, and the Nasdaq added 2.8% for the quarter. But we also saw signs of desperation: wild trading in the equities market, spurred on by Reddit and Robinhood. And we witnessed the debacle of Archego Capital Management, a family-owned firm that used risky “total return swaps” to massively leverage investors’ money. International banks took a huge hit as the bet unraveled. “I guess the smart money isn’t that much different than the Reddit traders,” posted one commenter in the WSJ (April 6, 2021). You might be asking, is this what recovery looks like?


Despite the wild market gyrations, most analysts believe the good news will continue: the pace of vaccinations will accelerate, a fast-recovering economy will roar back to life, robust job growth will persist and unemployment will fall. Most important of all, the world will get a handle on the spread of Covid-19. Notably, US employers added 916,000 jobs in March, double the number in February and the most since last August. The unemployment rate fell to 6% as nearly 350,000 people rejoined the labor force. From many angles, it looks to be a bullish year for investors, notwithstanding the threat of inflation (see last month’s blog) and the global ability to control the spread of Covid-19 and its variants.

 

Among those cheering the loudest are mutual fund companies. Recent year-to-year results are simply eye-popping. In February, Morningstar reported that 59 ETFs had total reported returns of 100% over the prior 12 months. By the end of March, that number had climbed to 218. In case you’re wondering why your equity portfolio doesn’t reflect 100% gains, the answer is in the timeline. March 2020 was a dismal month for the market, with the S&P 500 losing -12.35%, following a negative -8.23% loss the month before. But those terrible losses have recently disappeared from trailing one-year returns. This is called “time period dependency,” explains Jason Zweig in the Wall Street Journal (9 April). Framing a specific time period is a form of subterfuge used to demonstrate amazing results. When the trailing worst months are knocked out of the equation, investors can be fooled into believing a story that’s too good to be true. As one example, Zweig points to a leveraged ETF fund called Direxion, which had lost -80.6% over the prior 12 months at the end of February 2020 but exploded to a one-year return of 348.5% by the end of March 2020, just one month later.


The mutual fund and hedge fund PR machines will be working overtime to tout these numbers. But investors should be wary. Many factors, including short-term blips and long-term trends, can distort data and manipulate investors into a buying or selling frenzy. Number-framing is just one more way the financial markets encourage risky short-term thinking that often contributes to long-term underperformance.


Premiums Put On a Show

Notwithstanding a quirk in the calendar, global returns have been exceptional over the 12-month period ending March 31, 2021. US and emerging markets returned roughly 60%, while international developed markets returned approximately 50%. Had someone suggested this scenario a year ago, you might have laughed him or her out of the room. Indeed, renowned economists predicted a prolonged, painful recovery.


These returns masked the tremendous outperformance of the size, value and profitability premiums, and in particular small cap value versus large cap growth. Investors who trusted their strategy and remained diversified were well rewarded, as they had a seat at the table for dramatic turnarounds in US premium performance. For the year ended March 31, small caps outperformed large caps, 106% versus 61%. For the same period, small value walloped large growth, 116% versus 60%.


These high returns were built on a slow accumulation of good news in turbulent markets. Highly effective vaccines were developed in record time. A new US president made Covid-19 control a top priority and accelerated vaccine rollouts. The federal government quickly provided for struggling businesses and families, and despite squabbling, passed a second large relief bill. There were also fewer bankruptcies than Wall Street expected, particularly among small cap companies. Overall, the economic news was not nearly as bad as expected. In Q2 2020, GDP dropped more than 30%. Then it bounced back by about that much the following quarter. By Q4, it was up about 4%. And looking forward, 2021 domestic GDP is forecast to grow between 6% and 7%.


As always, predicting when premiums will show up is impossible. But DFA and other research has proven that when higher-than-expected premiums do show up, they tend to be much larger than average. This reinforces a simple but often ignored fact: If you want to improve your probability of capturing increased returns, make sure you stay focused on the asset category that you're interested in pursuing and be patient. And it goes without saying that enduring long time periods when your portfolio doesn’t conform to expectations, is often the corollary to successfully pursuing higher expected returns. So it takes a grown up approach.


Today many investors are wondering, is it too late to get back in the game? Have I missed the best days? What should I expect going forward? Here again it pays to follow a long history of empirical evidence. Higher expected returns can be targeted by adding small cap stocks, stocks trading at low relative prices (value stocks), and stocks demonstrating higher orders of profitability. If you accept that not all stocks have the same expected return, then you should stay focused to some degree on lower priced, higher expected returns stocks. And after experiencing a 60% small value premium, that story doesn't change. It's the same. There are still positive expected small cap value and profitability premiums, and we expect those to be positive every single day.

 

DFA offers interesting data to demonstrate the point:

 

• For rolling six-month periods going all the way back to the 1920s, the average six-month return difference of small value versus large growth is 3.4%.


• Looking at the top quartile of rolling six-month period returns, the return difference of small value versus large growth was 10% and higher.

 

• Six months after the top quartile performance, the return difference of small cap value versus large growth is more than 4%.

 

In conclusion, there’s no evidence that a good six-month period, a six-month period in the top quartile of returns, will be followed by either a bad or good period. Again, it pays to stay invested at all times and to remain diversified across different categories, and within categories across different asset classes. This is how to capture expected return.


If you have questions or concerns about your portfolio, call me. I am here to help.


Regards,


John Gorlow
President
Cardiff Park Advisors
888.332.2238 Toll Free
760.635.7526 Direct
760.271.6311 Cell
760.284.5550 Fax
jgorlow@cardiffpark.com


Q1 2020 Market Report

Courtesy of DFA


World Asset Classes — First Quarter 2021 Index Returns (%)

Equity markets around the globe posted positive returns in the first quarter. Looking at broad market indices, US and non-US developed markets outperformed emerging markets. Value outperformed growth across regions. Small caps outperformed large caps across regions as well. REIT indices outperformed equity market indices in the US and underperformed in non-US developed markets


World Asset Classes

QTD

Russell 2000 Value Index

21.17

Russell 2000 Index

12.70

Russell 1000 Value Index

11.26

Dow Jones US Select REIT Index

10.00

MSCI World ex USA Value Index (net div.)

8.33

MSCI Emerging Markets Small Cap Index (net div.)

7.67

Russell 3000 Index

6.35

S&P 500 Index

6.17

Russell 1000 Index

5.91

MSCI World ex USA Small Cap Index (net div.)

4.88

MSCI Emerging Markets Value Index (net div.)

4.11

MSCI World ex USA Index (net div.)

4.04

MSCI All Country World ex USA Index (net div.)

3.49

MSCI Emerging Markets Index (net div.)

2.29

S&P Global ex US REIT Index (net div.)

2.23

One-Month US Treasury Bills

0.01

Bloomberg Barclays US Aggregate Bond Index


First Quarter 2021 Index Returns



US Stocks (57%)

The US equity market posted positive returns for the quarter and outperformed non-US developed markets and emerging markets. Value outperformed growth across large and small cap stocks. Small caps outperformed large caps. REIT indices outperformed equity market indices. [1]


Ranked Returns for the Quarter

    (%)

Small Value

21.17

Small Cap

12.70

Large Value

11.26

Marketwide

6.35

Large Cap

5.91

Small Growth

4.88

Large Growth

0.94

First Quarter 2021 Index Returns



Period Returns (%)

QTD

1 Yr

3 Yrs*

5 Yrs*

10 Yrs*

Small Value

21.17

97.05

11.57

13.56

10.06

Small Cap

12.70

94.85

14.76

16.35

11.68

Large Value

11.26

56.09

10.96

11.74

10.99

Marketwide

6.35

62.53

17.12

16.64

13.79

Large Cap

5.91

60.59

17.31

16.66

13.97

Small Growth

4.88

90.20

17.16

18.61

13.02

Large Growth

0.94

62.74

22.80

21.05

16.63

As of 3/31/2021


* Annualized


International Developed Stocks (30%)

Developed markets outside the US posted positive returns for the quarter, underperforming US equities but outperforming emerging markets. Value outperformed growth. Small caps outperformed large caps. [2]


Ranked Returns for the Quarter

   (%)

Value

8.33

Small Cap

4.88

Large Cap

4.04

Growth

-0.36

First Quarter 2021 Index Returns



Period Returns (%)

QTD

1 Yr

3 Yrs*

5 Yrs*

10 Yrs*

Value

8.33

47.17

2.25

6.81

3.54

Small Cap

4.88

65.17

6.89

10.55

7.14

Large Cap

4.04

45.86

6.34

8.92

5.21

Growth

-0.36

43.55

10.02

10.72

6.69

As of 3/31/2021


* Annualized


Emerging Markets Stocks (13%)

Emerging markets posted positive returns for the quarter, underperforming the US and developed ex US equity markets. Value outperformed growth. Small caps outperformed large caps. [3]


Ranked Returns for the Quarter

  (%)

Value

7.67

Small Cap

4.11

Large Cap

2.29

Growth

0.59

First Quarter 2021 Index Returns



Period Returns (%)

QTD

1 Yr

3 Yrs*

5 Yrs*

10 Yrs*

Value

7.67

87.13

5.19

9.59

3.33

Small Cap

4.11

52.53

2.60

8.42

1.03

Large Cap

2.29

58.39

6.48

12.07

3.65

Growth

0.59

63.78

10.10

15.53

6.15

As of 3/31/2021


* Annualized


Real Estate Investment Trusts

US real estate investment trusts outperformed non-US REITs during the quarter. [4]


Ranked Returns for the Quarter

   (%)

US REITS

10.00

Global ex US REITS

2.23

First Quarter 2021 Index Returns



Period Returns (%)

QTD

1 Yr

3 Yrs*

5 Yrs*

10 Yrs*

US REITS

10.00

36.66

7.55

3.94

7.89

Global ex US REITS

2.23

36.18

2.12

2.92

4.74

As of 3/31/2021


* Annualized


Sector Performance

Sector results continued to be strongly positive. For the quarter, all 11 sectors gained. Energy did the best for the quarter, returning 29.27%. Industrials returned 11% as the economy and production was starting to pick up. Consumer sectors continued to vary, as Consumer Discretionary returned 2.94%, while Consumer Staples, the worst sector in the index, returned 0.45%. Financials continued up, adding 15.35%. Information Technology posted a 1.74% gain and Communication Services added 7.82% for the period.


US Sector Returns

(%)

Communication Services

7.82

Consumer Discretionary

2.94

Consumer Staples

0.45

Energy

29.27

Financials

15.35

Health Care

2.74

Industrials

11

Information Technology

1.74

Materials

8.56

Real Estate

8.38

S&P 500

5.77

Utilities

1.94

First Quarter 2021

 


Fixed Income

Interest rates generally increased in the US Treasury fixed income market during the first quarter. The yield on the 5-Year US Treasury note rose 56 basis points (bps), ending at 0.95%. The yield on the 10-Year T-note increased 81 bps to 1.74%. The 30-Year Treasury bond yield increased 75 bps to 2.39%. On the short end of the curve, the 1-month US Treasury bill yield decreased 3 bps to 0.05%, and the 1-Year T-bill yield fell 5 bps to 0.08%. The yield on the 2-Year US Treasury note climbed 6 bps to end at 0.15%. In terms of total returns, short-term corporate bonds declined 0.59%. Intermediate-term corporate bonds declined 2.19%. The total return for short-term municipal bonds was flat, while intermediate-term municipal bonds lost 0.52%. Revenue bonds outperformed general obligation bonds. [5]


Bond Yields Across Issuers

(%)

10-Year US Treasury

1.74

State and Local Municipals

2.33

AAA-AA Corporates

2.00

A-BBB Corporates

2.39

First Quarter 2021 Index Returns



Asset Class

QTR

1 Yr

3 Yrs*

5 Yrs*

10 Yrs*

Bloomberg Barclays US High Yield Corporate Bond Index

0.85

23.72

6.84

8.06

6.48

ICE BofA 1-Year US Treasury Note Index

0.07

0.17

2.14

1.52

0.92

ICE BofA US 3-Month Treasury Bill Index

0.03

0.12

1.49

1.19

0.63

Bloomberg Barclays Municipal Bond Index

-0.35

5.51

4.91

3.49

4.54

FTSE World Gov’t Bond Index 1-5 Years (hedged to USD)

-0.36

0.57

2.88

2.05

1.96

Bloomberg Barclays US TIPS Index

-1.47

7.54

5.68

3.86

3.44

FTSE World Government Bond Index 1-5 Years

-2.39

3.20

1.29

1.43

0.09

Bloomberg Barclays US Aggregate Bond Index

-3.37

0.71

4.65

3.1

3.44

Bloomberg Barclays US Government Bond Index Long

-13.39

-15.60

5.84

3.17

6.3

As of 3/31/2021


* Annualized


Changes in Yields (bps) since 12/31/2021

 

 

 

 

 

 

1Y

5Y

10Y

20Y

30Y

US

-4.70

56.10

89.60

86.00

74.90

UK

13.90

46.20

67.60

66.50

62.20

Germany

10.60

10.60

27.50

39.70

40.40

Japan

-1.00

2.50

7.60

7.80

2.70

Canada

1.70

57.80

88.30

82.30

74.70

Australia

2.90

43.20

76.90

79.50

73.20

As of 3/31/2021

 

 

 

 

 

 

Commodities

The Bloomberg Commodity Index Total Return returned 6.92% for the first quarter of 2021. Unleaded Gas and Lean Hogs were the best performers, returning 28.95% and 27.47%, respectively. Gold and Silver were the worst performers, declining 9.82% and 7.25%, respectively. [6]


Period Returns (%)

QTR

1 Yr

3 Yrs*

5 Yrs*

10 Yrs*

Commodities

6.92

35.04

-0.20

2.31

-6.28

As of 3/31/2021

* Annualized


Impact of Diversification

These portfolios illustrate the performance of different global stock/bond mixes and highlight the benefits of diversification. Mixes with larger allocations to stocks are considered riskier but have higher expected returns over time. [7]


Ranked Returns for the Quarter

 (%)

100% Stocks

4.68

75/25

3.51

50/50

2.34

25/75

1.17

100% Treasury Bills

0.01

First Quarter 2021 Index Returns



Period Returns (%)

QTD

1 Yr

3 Yrs*

5 Yrs*

10 Yrs*

10-Yr SD

100% Stocks

4.68

55.31

12.66

13.81

9.73

14.07

75/25

3.51

39.64

10.05

10.71

7.57

10.55

50/50

2.34

25.27

7.29

7.55

5.31

7.03

25/75

1.17

12.11

4.38

4.33

2.97

3.51

100% Treasury Bills

0.01

0.08

1.35

1.07

0.55

0.23

As of 3/31/2021


* Annualized



1. Past performance is not a guarantee of future results. Indices are not available for direct investment. Index performance does not reflect the expenses associated with the management of an actual portfolio. Market segment (index representation) as follows: Marketwide (Russell 3000 Index), Large Cap (Russell 1000 Index), Large Cap Value (Russell 1000 Value Index), Large Cap Growth (Russell 1000 Growth Index), Small Cap (Russell 2000 Index), Small Cap Value (Russell 1000 Value Index), and Small Cap Growth (Russell 2000 Growth Index). World Market Cap represented by Russell 3000 Index, MSCI World ex USA IMI Index, and MSCI Emerging Markets IMI Index. Russell 3000 Index is used as the proxy for the US market. Dow Jones US Select REIT Index used as proxy for the US REIT market. Frank Russell Company is the source and owner of the trademarks, service marks, and copyrights related to the Russell Indexes. MSCI data © MSCI 2021, all rights reserved.


2. Past performance is not a guarantee of future results. Indices are not available for direct investment. Index performance does not reflect the expenses associated with the management of an actual portfolio. Market segment (index representation) as follows: Large Cap (MSCI World ex USA Index), Small Cap (MSCI World ex USA Small Cap Index), Value (MSCI World ex USA Value Index), and Growth (MSCI World ex USA Growth Index). All index returns are net of withholding tax on dividends. World Market Cap represented by Russell 3000 Index, MSCI World ex USA IMI Index, and MSCI Emerging Markets IMI Index. MSCI World ex USA IMI Index is used as the proxy for the International Developed market. MSCI data © MSCI 2021, all rights reserved. Frank Russell Company is the source and owner of the trademarks, service marks, and copyrights related to the Russell Indexes.


3. Past performance is not a guarantee of future results. Indices are not available for direct investment. Index performance does not reflect the expenses associated with the management of an actual portfolio. Market segment (index representation) as follows: Large Cap (MSCI Emerging Markets Index), Small Cap (MSCI Emerging Markets Small Cap Index), Value (MSCI Emerging Markets Value Index), and Growth (MSCI Emerging Markets Growth Index). All index returns are net of withholding tax on dividends. World Market Cap represented by Russell 3000 Index, MSCI World ex USA IMI Index, and MSCI Emerging Markets IMI Index. MSCI Emerging Markets IMI Index used as the proxy for the emerging market portion of the market. MSCI data © MSCI 2021, all rights reserved. Frank Russell Company is the source and owner of the trademarks, service marks, and copyrights related to the Russell Indexes.


4. Past performance is not a guarantee of future results. Indices are not available for direct investment. Index performance does not reflect the expenses associated with the management of an actual portfolio. Number of REIT stocks and total value based on the two indices. All index returns are net of withholding tax on dividends. Total value of REIT stocks represented by Dow Jones US Select REIT Index and the S&P Global ex US REIT Index. Dow Jones US Select REIT Index used as proxy for the US market, and S&P Global ex US REIT Index used as proxy for the World ex US market. Dow Jones and S&P data © 2021 S&P Dow Jones Indices LLC, a division of S&P Global. All rights reserved.


5. Past performance is not a guarantee of future results. Index is not available for direct investment. Index performance does not reflect the expenses associated with the management of an actual portfolio. Commodities returns represent the return of the Bloomberg Commodity Total Return Index. Individual commodities are sub-index values of the Bloomberg Commodity Total Return Index. Data provided by Bloomberg.


6. One basis point (bps) equals 0.01%. Past performance is not a guarantee of future results. Indices are not available for direct investment. Index performance does not reflect the expenses associated with the management of an actual portfolio. Yield curve data from Federal Reserve. State and local bonds are from the S&P National AMT-Free Municipal Bond Index. AAA-AA Corporates represent the Bank of America Merrill Lynch US Corporates, AA-AAA rated. A-BBB Corporates represent the ICE BofA Corporates, BBB-A rated. Bloomberg Barclays data provided by Bloomberg.  US long-term bonds, bills, inflation, and fixed income factor data © Stocks, Bonds, Bills, and Inflation (SBBI) Yearbook™, Ibbotson Associates, Chicago (annually updated work by Roger G. Ibbotson and Rex A. Sinquefield). FTSE fixed income indices © 2021 FTSE Fixed Income LLC, all rights reserved. ICE BofA index data © 2021 ICE Data Indices, LLC. S&P data © 2021 S&P Dow Jones Indices LLC, a division of S&P Global. All rights reserved.

 

7. SD (standard deviation) is a measure of the variation or dispersion of a set of data points. Standard deviations are often used to quantify the historical return volatility of a security or portfolio. Diversification does not eliminate the risk of market loss. Past performance is not a guarantee of future results. Indices are not available for direct investment. Index performance does not reflect expenses associated with the management of an actual portfolio. Asset allocations and the hypothetical index portfolio returns are for illustrative purposes only and do not represent actual performance. Global Stocks represented by MSCI All Country World Index (gross div.) and Treasury Bills represented by US One-Month Treasury Bills. Globally diversified allocations rebalanced monthly, no withdrawals. Data © MSCI 2021, all rights reserved. Treasury bills © Stocks, Bonds, Bills, and Inflation Yearbook™, Ibbotson Associates, Chicago (annually updated work by Roger G. Ibbotson and Rex A. Sinquefield).




 


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