Here's our take on what happened in the markets in the third quarter of 2023.
"Hi, I'm Clayton Johnson from Squire Wealth Advisors. And today I wanted to jump on real quick with the close of the third quarter of 2023 and talk about Squire's perspective on markets and current economic conditions. The main takeaway from quarter three is that inflation started to cool off and real economic growth continues to be stronger than most forecasters were predicting at the beginning of the year. As economic growth has remained strong, those predicting a recession this year were likely incorrect. As you can see in the chart on the screen, stocks pulled back a bit in the third quarter, though they're still very positive territory for the year.
And over the last 12 months, year to date through September 30th, the Russell 3000 or the 3000 largest U.S. Companies we're up 12.4% international developed companies were about 6% and emerging markets companies were about 3 1/2%. Even though all three indices delivered slightly negative returns in the third quarter year to date, there in the bond market, yields are still high and presenting a nice opportunity for high quality income for investors. So likely you're seeing money market mutual funds. How yield savings accounts? CD's all providing a higher yield to investors, likely even north of 5%. We're seeing some that are above 5% for those of us investing with a tilt towards small and value companies and our portfolios, the last number of years could be described as disheartening. But this illustration that you're seeing here is very telling of current stock market valuations and provides incentive to continue in that strategy.
What you're seeing is the historical price to earnings ratio, also known as the P/E ratio of various asset classes in the United States. Now the PE ratio is a measure of the price of a company's stock divided by the earnings of that company. Company, in other words, the PE ratio shows how expensive it is to buy $1.00 of a company's earnings. The higher the ratio, the more expensive the asset class or that company is overall and these valuations are really helpful. Umm. In in setting expectations about the future. So this illustration shows not just the PE ratio of 1 company, but the average aggregate PE ratio of all the companies in specific asset classes starting in the first quarter of 2004. So over the last 10 years, if you've been following the news, you'll know that over the last 10 years, US large growth companies have performed above their historical averages. And as you can see in the top right of the solar station there PE ratios are also above historical averages. As a result, you can also see in the bottom left at the PE ratio of US small stocks are below their historical averages. All else being equal, we want to pay less for a dollar of earnings. That implies that the stock is on sale over long periods of time. Low valuations today imply higher future returns and vice versa. So the takeaway is, although it's tempting to look at recent performance of a stock to determine that's what you want your portfolio, you may be tempted to chase the returns of some of these large growth companies. But I'd point to these valuation charts as one reason to stay the course in a diversified portfolio that's tilted towards small and relatively inexpensive companies. And then I want to end with one very important investment principle and that is the uncertainty and potential for loss is the price we pay for an expected profit in the markets. In other words, it's our ticket of admission. We're going to have times like these over short periods of time, such as this quarter we just had. Where markets are down, in fact, it's not unusual to see the markets down for even longer periods than a single quarter. If you ever heard the lost decade from 1999 to 2009 / a ten year span, the S&P 500 generated a -, .9% return. It underperformed U.S. Treasuries, which are typically considered the safest, lowest risk and therefore lowest return investment in the markets. You would even better off in U.S. Treasuries over that 10 year time period. So when I want to direct your attention to one of my favorite illustrations from dimensional Fund Advisors that validates this principle, we often hear the media touting historical averages such as the 10% return of the S&P 500. But what often gets ignored is the volatility associated with that annual average.
As you can see, from 1926 to 2022, the S&P 500 has averaged 10% on an annual basis, but only six of those years had a return that was actually close to 10% and from 1926 to 2022, almost 100 years, not a single year actually had exactly a 10% return. So a big difference between the average return and what you might expect in a given period of time, even over a short period of time or in a midterm period of time. Five years. 10 years. Remember the last decade we're going to see periods of underperformance with the expectation that the markets recover and over over a long period of time, we have better, better averages. OK, we've had quite a few major global events over the last number of years and quite a few just concentrated in this year. We've had pandemics, we've had wars. We've had bank collapses and all of these large global economic events have impacted markets they've added to volatility. They've caused drops in the market, they've various things. I mean, when COVID first happened several years ago, the market dropped faster than ever, dropped before and recovered in a month time frame. The fastest recovery in history. OK, so we have these economic conditions, things happening that we just can't predict. We can't predict wars. We can't predict pandemics. We can't predict these bank crashes and therefore we can't predict the volatility or future returns of the markets, but we can control how we act in these situations. We often work with our clients and talk about how the best plan is to stick with your strategy, and sometimes the best action is no action at all. So I just want to leave that thought with you. I appreciate you taking the time to listen to Squires perspectives on the markets. If you have any questions, please don't hesitate to reach out our teams information in the notes this video, happy to chat and see what we can do to answer your questions."
Clayton Johnson, CFP®