2013 Fourth Quarter Commentary: A Year to Remember

SeanCommentary

The U.S. stock market punctuated an extraordinary year with gains on the last trading day, moving many of the American indexes to record highs as of year end. Despite the many uncertainties we faced in 2013 – the government shutdown, Boston bombings, the ongoing Syrian uprisings, debt ceiling debates, NSA revelations, the lingering economic aftershocks of superstorm Sandy, a nuclear standoff with Iran, and the economic effects of the Affordable Care Act, equity investors will look back at 2013 as one of the most profitable years for investors on record. Perhaps making the year even sweeter was that September 15th marked the fifth anniversary of the Lehman bankruptcy in 2008, which of course opened a Pandora’s box of economic woes to follow, the likes of which not many of us had previously seen.

Large cap US stocks as measured by the S&P 500 gained 30% in 2013, and small company stocks, as measured by the Russell 2000 index, gained 39%. By any measure, these returns were remarkable. The S&P gains were the highest since 1997, and the 3rd highest since 1970. Making the year even more remarkable was that nearly no one had predicted a raging bull in 2013, and many economists and pundits didn’t think returns like these would be possible.

If anything, the five-year market gains since the Lehman bankruptcy have been even more extraordinary. The Wilshire 5000 has posted annual average gains of 18% per year over the last 60 months, and the midcap and small cap indices have fared even better. Investors who got out of stocks during the market crisis of 2008 and who have worried ever since have missed out on one of the best 5-year market runs in American history.

Around the world, equity market returns were also mostly excellent in 2013, even though those returns lagged the booming U.S. market. The broad-based EAFE index of developed economies rose 19% in dollar terms for the year; European stocks were up 22%, despite the continuing threats of sovereign debt default and internal trade imbalances. Emerging markets, however, were a very different story. In 2013, the EAFE Emerging Markets index of stocks in Latin America, the Middle East, Eastern Europe, Africa, India and Russia was down 5% for the year, despite a rise in the year’s final quarter.

Other investment categories also lagged both equities and their own long-term performance averages. Real estate, as measured by the Wilshire REIT index, gained just less than 2% for the year. Commodities experienced a price drop of about 1% in 2013, and gold investors experienced the metal’s worst annual loss in 32 years, dropping 28% in value over the past 12 months.

Bond yields remain low by historical standards, but a slow rise in rates caused bond holders to experience paper losses. Investors in the Barclay’s Global Aggregate bond index lost about 3% in 2013, and 2% for those in the U.S. Aggregate index. 10-year Treasuries bonds now yield 3% and 5-year Treasuries are yielding just less than 2%.

So, IS this a bull market? Many commentators, investment strategists and economists don’t agree on whether we are experiencing a temporary rise in the midst of a long-term bear market, like we experienced during the Great Depression, or the strong early stirrings of a long-term bull like the one that started in 1982. The truth is that no one knows, just as no one knew that equity markets would reel off such strong returns after the near-collapse of the global economic system.

Long-term investors can be compared to farmers, who plant seeds with no foreknowledge of the weather during their growing season, and no belief that what happened last year will have any impact on what will happen this year. There will be good years and bad years, but over time, the good years have tended to outnumber the bad ones, which is why it has made economic sense to continue planting the seeds each Spring – or, in our case, to stay invested in the equity markets when each coming year is a mystery.

What’s next? Who knows?! Long-term, stocks tend to reflect the overall growth of the economy. One possible reason why so many investors remain nervous about stocks is the persistent – and erroneous – belief that the U.S. economy is still mired in a recession. You hear words like “sluggish” in the press, but in fact, the total output of the American economy has grown steadily since the 2008 meltdown, and the pace of growth seems to be accelerating. The Bureau of Economic Analysis statistics show an annualized increase of 4.1% in the third quarter of last year (the most recent period for which we have statistics), following a 2.5% rise in the second quarter.

Other economic signs are also encouraging. Total corporate profits rose $39 billion in the third quarter, following an increase of $67 billion in the second quarter. Individuals and corporations are carrying less debt than in the past; total public and private debt in the first quarter of 2010, which was over 3.5 times U.S. GDP, today stands at just a hair over 1 times GDP; consumers are saddled with much less debt than they were at the start of the financial crisis in 2007. U.S. home prices recently posted their largest one-month rise in more than seven years, and some markets have seen housing values reach their pre-recession levels.

Many will fret over whether or not this bull market is “real” and over what may lie ahead for 2014, but make no mistake: this was a great year for equity investors, and despite the many economic woes the US and the global economies have faced since Lehman went under, it’s been a spectacular five years as well. At some point in time, when the next inevitable (and temporary) market correction comes – which it will as sure as the sun will rise tomorrow – it will be well worth remembering the tremendous returns we have seen this year and in the last five, even in the aftermath of the worst financial crisis in three quarters of century.

Happy New Year to you, and I hope 2014 is a happy, healthy and prosperous year for you and your family. As always, please let us know if there is anything we can do for you.