Here's our 10-minute take on what happened in the markets in the first quarter of 2023, and how a long-term plan can help you regardless of what happens next.
Clayton: Hey! Thank you, Nathan, for joining me again. I wanted to go through a rapid-fire, question-style with you about a review of the markets and investing. Quarter 1 has been crazy. A lot's happened. So, Nathan, what's going on in the markets right now? Tell us a little bit about what's going on.
Nathan: Thanks for having me today. We had a rough year last year. The markets were down. Some encouraging news is that in this first quarter of 2023, things have been positive. U.S. markets are up almost 7%, international markets are up a little bit more than that. Pretty much everything is up this quarter, which sounds a little crazy with all the stuff that's happened this quarter, but it's definitely encouraging news for sure.
Clayton: I agree. We can reference some of those things, right? The Silicon Valley Bank was the big one for the quarter. Despite that, markets have seemed to perform pretty well.
Nathan: Yeah, it's definitely an encouraging sign. Last year was a rough year, so if you roll the clock back 12 months, most markets are still negative for that 12 months, but we've had a pretty good recovery this first quarter and it's eating into that down market that we experienced last year. So, very encouraging.
Clayton: Yeah, thanks Nathan. I wanted to ask you a little question about small and value strategy. A little bit of background first before we get into it. For those who are less familiar with small and value, which is a strategy that we utilize a lot with our clients and with our portfolios, it's this idea of a small strategy implying investing in small companies versus large companies. Your Shake Shacks versus your McDonald's, or value companies, where the price of their stock is low relative to some fundamental value of the company like earnings. A common value ratio is the P/E ratio you hear a lot about. So a value company is one whose P/E ratio, the price of their stock relative to their earnings, is low compared to someone else. So in a strategy where you're investing in small companies and value companies, you're tilting towards companies and funds that emphasize those "factors" in the market. So Nathan, here's my question: How is the small and value strategy working right now?
Nathan: Yeah, it's been a tough run for small and value over the past few years, and really when we look at the data it's more that the large growth stocks have just had a killer run. They've been doing really well. And so they've outperformed small and value over the recent past. The key with this is every day, we expect smaller companies to outperform large, and we expect value companies to outperform growth. But there are times when that premium does not show up, and we're kind of in that time. And the way I like to look at it is, it doesn't mean the strategy is bad. You know, we don't have a crystal ball and we can't determine which strategy is going to be the next best performer, but we do know historically investors have been rewarded for investing in small and value stocks. And so we're willing to stick with it. We know those premiums are going to show up, and usually when they do show up it's fast, so if you try to time it you miss it. And you know, the good thing with the underperformance is right now those small and value stocks are kind of due for some outperformance, and if you just do a mean, a statistical analysis of the mean, that premium is going to show up and in order to capture it you just need to be patient.
Clayton: That's actually really great insight, Nathan. Thinking about this last quarter, right, if we look at the performance of value, small value's been negative quarter-to-date. Whereas large growth and some of these others performed well. But to your point, this is all normal. This is all within the statistical normalities of how the markets perform. You've got to stay in your seat and be ready for when there is that small value outperformance, because historically when you look at small companies, value companies, there's a premium to be invested in that. So for example, the most common premium we're familiar with is the market premium. So if you invest in stocks versus investing in U.S. treasuries, there's about a 9% premium to be invested in stocks. Now, with that higher expected return comes a lot more volatility, a lot more ups and downs, but it's still there if you can sit in your seat and invest for the long term. Lesser known premiums, like the small and value, size premium - there's a 3% and with value there's a 4% premium - and so it's hard to see that when we're negative for the quarter, right, but over the long run we find in portfolios that are tilted, they outperform just the regular indexes, things like that.
Nathan: Yeah. It's a good point. Another thing to remember is diversification. We spread our clients' investment dollars across lots of different types of investments to provide diversification benefits, and diversification is always working. Small's down right now, large growth is up - that's diversification working! Sometimes we like the results and sometimes we don't, but is working and over time we expect it to work in the long run.
Clayton: That's great, Nathan. So next question: A lot's been happening lately, as we've mentioned already, and what we hear a lot, especially in the news, is, 'Well, this time is different.' So here's my question, Nathan. Is this time different?
Nathan: History tells us that it's not. If you just think about what's happened this quarter alone, but maybe even take it a few years back to the global pandemic happening. I mean, we've been through a pandemic, we've had a presidential election change, a pretty divisive political environment, we've had a war break out with Russia and Ukraine, we've had record-high inflation, interest rates being rapidly increased by the Federal Reserve. And if we were to roll the script back and say all these things are going to happen in the next 3 years, and with all those things happening, if you have a diversified portfolio, you're still going to have a positive investment return. And not only that, but you're going to be right in line with the historical averages. I think we all would be surprised there, and I think we would have taken that bet, you know? We would have taken those results, knowing the future with all the uncertainty and all the things that were going to happen. And there are going to be more things that continue to happen. So is this time different? The events might be different and unique in their own way, but as far as the market reacting and takeaways as an investor, no, it's not different. The key is just to stay the course, make sure your plan is aligned with your goals, and stick with it.
Clayton: That's perfect, Nathan. I appreciate that. One thing I just want to build onto that is, we hear a lot in the news, we hear a lot from people, that this time is different. And they worry! They want to pull their money out of stocks and go into gold, or pull out their money and go into cash, or CDs, or whatever it may be, and the data on that is very, very surprising. If you go back to 1980, from 1980 to 2022, and you had invested $1,000 - if you just missed the 5 best days of investing that money, the difference of your portfolio results would have been significant, almost a 37% spread. That's a very small fraction of the days, and your results would have been $40,000 less than if you had invested in it entirely, the whole time.
I think the message here is, there's really a benefit to staying in our seats and taking the perspective that even when markets are doing their thing and we're in a down period like we've seen the last year, it still favors us to hold on and stay in our seats.
Nathan: Yeah, stay in your seat and also stick to your plan. If your plan needs to be revisited and you've got things changing in your life let's make adjustments, but we should not be making adjustments just because we're worried. We plan for down markets, and missing the 5 best days would be very easy if you were trying to jump in and out of the market, because when the market has issues and then it recovers, the recovery is usually really quick and if you try to time it, you're going to miss it. It's likely that you'll miss it on both ends, when you decide to get out and when you decide to get back in. It's very difficult, if not impossible, to predict those two things.
Clayton: Yeah, totally agree. Well Nathan, that's it. I really appreciate you joining me and answering some of these questions. Hopefully this is helpful. If anyone has questions, more about Squire's investment strategy or just investments in general, or the market, or worries, or anything like that, we're happy to chat. Our contact information will be in the comments below. Thanks Nathan!