As 2008 comes quickly to a close, the markets have stabilized and appear to have put in at least a temporary bottom at the Dow 8000 level. However, as of yet they have failed to build any positive momentum heading into the end of the year. Following the markets significant retreat in October and November (having doubled the market losses over the first nine months of the year), we are currently stuck in a trading range, with fairly solid support at around Dow 8000 and solid resistance at Dow 9600. The extremes of this range have been tested several times, and each has held thus far. No doubt that one or both sides of this range will be tested in 2009, perhaps very early on.
The overall market environment in 2008 will almost certainly go down as one of the most damaging to investors ever. The depth of the market decline has been dramatic, but so too has the breadth – EVERY broad market segment has been negatively impacted, including large caps, small caps, mid caps, growth, value, domestic, international, real estate, private equity, commodities, and a good number of fixed income areas as well. In short, any asset that can be considered an “at-risk” asset has experienced as much or more risk than had been experienced at any other time in modern history.
But what has worked well? No-risk assets. Money-markets, CDs, “plain-Jane” U.S. Government bonds, and not much else. As evidenced by the low yields on practically every no-risk asset available right now, the demand by the marketplace for predictability and stability has been ferocious. The 30-day U.S. T-Bill has recently been offered at NEGATIVE interest rates, and the Ten-Year Treasury today is yielding 2.53%. If there can be some value in sniffing out bubbles before they burst, the overwhelming demand for treasuries sure is acting like one.
In practicality, there really are only two true asset classes – “At-risk assets,” and “No-risk assets.” Any other dissection of assets may really be irrelevant and may actually do more harm than good. The nightmare for so many investors in 2008 is that assets that were once performing differently at different times are now perfectly correlated. In other words, diversifying a portfolio by WHAT you own (beyond a combination of at-risk and no-risk assets”) may actually do you no good. A portfolio of all “at-risk assets” (no matter what they are) has experienced losses of 35% or more so-far this year. And a portfolio of all “no-risk assets” (no matter what they are) can only produce miniscule returns over the next ten years.
It is clear that markets are not what they once were – they are more volatile, more dynamic, more laden with both opportunity and risk. What EVERY investor needs is a way to systematically adjust their overall exposure to at-risk assets and in-turn their exposure to no-risk assets and back again, adjusting in real time as market conditions change. Having this ability is the hallmark of The Appleton Group Wealth Management Discipline, and what continues to serve our investors better than practically every other way of portfolio management.
The Appleton Group Composites™
The Appleton Group Wealth Management Discipline offers investors the ability to systematically adjust their overall portfolio mix between “at-risk assets” (of all kinds) and “no-risk assets” (of all kinds). For all of our core offerings (Appleton Group PLUS, Appleton Group Tax Managed Growth Portfolio, and Appleton Group Portfolio strategies), the net result has been the successful limiting of losses to single digits despite the staggering losses experienced by the overall markets. While these core portfolios are all still down for the year, they are all within striking range of breakeven should any sort of sustained market advance materialize. This is beautiful, but still annoying. While we have been overweighting in “no-risk assets” for much of the year, our asset allocation has recently shifted toward a slightly more assertive posture. Our market research shows increasing support for at-risk assets at the current time, and we have slightly increased our exposure to equities, commodity-based indexes, and even a bit of real-estate. We are in no way certain that the worst of the market decline is behind us; however, we will continue to adjust our portfolios as necessary to produce useful and meaningful returns over time while managing risk along the way.
Either the Federal Reserve and the U.S. Treasury will be successful at re-inflating the economy, or they won’t. It’s really that simple, and there is no middle ground. The outcomes for each possibility are as different as night and day, and each must be prepared for. We believe that the Fed’s task should be in preventing further asset deflation, but it is easier said than done. As the price of oil has fallen dramatically over the past six months or so, so too has corn, wheat, soybeans, copper, steel and practically every other commodity (with gold’s relative stability being noted). This is not coincidental, as the price of each is directly tied to the direction of the dollar (a stronger dollar weakens commodity prices, a weaker dollar increases commodity prices). Fed Chairman Ben Bernanke is an astute expert on past periods of deflation, most notably during the 1930s, and we are convinced that he will do everything possible to stop the downward slide in commodity prices through proactive fiscal policy. We further believe that he will stay at it until he is successful. As such, we are convinced that inflation expectations should be moving higher and we have begun to see a bit of a bounce in oil prices already.
If successful, re-inflating the economy could produce a sizable boost to most at-risk assets including commodities, equities, real-estate, etc. Which asset classes would be harmed? Most fixed-income assets could see substantial losses in the short-run, with no-risk assets such as cash and short-term treasuries simply losing purchasing power and the cost of opportunity.
For the equity markets to get back to their year-end 2007 levels, they now have to advance by staggering amounts ranging from 54% for the Dow Jones Industrial Average, 69% for the S&P 500 Index and 76% for the NASDAQ Composite. Any sustainable advance back toward recent highs could result in sizable capital gains, which we would certainly want to participate in to as large a degree as possible. While not likely to occur over the short run, preparing for this possible market advance now makes so much more sense that reacting after that advance has already taken place.