Global Market Update: Good Defense

By ClearRock Research April 1, 2019 Insights
Good Defense

Duke University Forward, Zion Williamson elevates for one of his fifty-eight blocks during the 2018/2019 season.

The Best Offense…

Any of history’s best basketball coaches will tell you that great teams win with superb defense.  It seems appropriate in the season of March Madness that we discuss why (and how) we have been playing thoughtful defense with our portfolios.

What does good defense mean in portfolio management?   We think it means protection from potential economic forces that could adversely impact our clients’ returns.  These forces include inflation, a credit crunch, and/or production imbalances.

Context

In last quarter’s commentary, we noted that we think moving forward, financial market returns will be less robust.  Things were relatively easy for investors from the end of the 2015 through most of 2018.  Growth was rising, inflation was virtually non-existent, and liquidity was plentiful.

Most of the reason for this was due to global central banks’ successful efforts to keep interest rates low.  This forced savers to invest in riskier assets, sending stock markets up around the world. Now that most of those same central banks have stopped “priming the pump,” the global macro cycle will likely transition to its late cycle phase.

Just because we’re in a late cycle environment doesn’t mean markets will falter. The economy can move at a slower pace without buffeting the markets.   Witness the year-to-date rally that has ensued after last year’s sharp selloff in December.  What we are saying is: as the business cycle matures, it becomes important to think more about capital preservation over growth.  What does that mean for your portfolios?

Implementing Good D

With growth slowing, we want to have a quality tilt to our equity allocation.  This means we are populating the portfolios with ETFs representing consistent dividend-paying companies (like DGRO), most who maintain lower levels of debt.  As the economy slows, companies with lower debt levels and who pay consistently growing dividends tend to outperform their peer group.

Another way we play defense is through diversification, something central to our investment DNA.  In the case of stocks, by diversifying away from the US, we can add some portfolio protection through ownership of ETFs representing foreign developed nations as well as emerging market nations.

Currently, valuations in the US are expensive relative to stocks outside the US.  Consequently, should US stocks fall, those outside the US may not fall as much.  Of course, just because something is inexpensive doesn’t mean it will deliver returns.  Our goal is to build portfolios that contain both quality and stability.

Finally, we believe that we can defend our portfolios against an economic slowdown with our fixed income allocation.  ETFs for high-yield bonds and emerging market bonds can offer high levels of current income, softening the blow of a weaker stock market.

Long-term Game

Playing good defense in basketball doesn’t ensure you’ll win every game, just as playing defense in managing clients’ portfolios doesn’t ensure positive returns in the face of the most severe economic forces.  What good defense does do is make sure that in the long run you have the best chance at winning.

We welcome your comments and greatly appreciate the trust you have placed in us.  We will continue to strive to earn that trust every day.

 

DISCLAIMER: 
Please  remember  that  past  performance  may  not  be  indicative  of  future  results.  Different  types  of  investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product made reference to directly or indirectly in this  newsletter (article), will be profitable, equal any corresponding indicated historical performance level(s),  or be suitable for your portfolio. Due to various factors, including changing market conditions, the content  may no longer be reflective of current opinions or positions. Moreover, you should not assume that any  discussion or information contained in this newsletter (article) serves as the receipt of, or as a substitute  for,  personalized  investment  advice  from  ClearRock  Capital,  LLC.  To  the  extent  that  a  reader  has  any  questions regarding the applicability of any specific issue discussed above to his/her individual situation,  he/she is encouraged to consult with the professional advisor of his/her choosing. A copy of our current  written  disclosure  statement  discussing  our  advisory  services  and  fees  is  available  for  review  upon  request.