With worldwide stock markets continuing to be very volatile and most broad stock market averages down by approximately 8-12% as of the close on Thursday, January 21, 2016, I thought further commentary would be helpful to our clients and friends.
The cause of this quick decline can be traced to two sources: the slowing of the Chinese economy (their economy is still growing, but at a reduced pace) and the continued rapid decline in the price of oil and other commodities.
As I read and observe from many news sources, newspapers and other media, I want to provide my current thoughts about these developments. One benefit of writing this weekly blog is that it forces me to put my thoughts down on paper, so to speak, to reflect and think.
For our clients, as I stated in my blog post dated January 7, 2016, Our perspective on 2016, week 1, we do not feel that you should sell stocks or make major asset allocation changes to your portfolio, in response to these market declines. Significant changes to your portfolio should be prompted by changes in your life, not in reaction to declines in the markets. If the recent market activity is causing you to worry a lot or not sleep well, then we need to talk. Please call us.
In response to a question about whether someone should change their asset allocation now, Eduardo Repetto, Chief Investment Officer of Dimensional Fund Advisors (DFA) made a great point on January 13th, during a webinar. He said that your asset allocation decisions should be made before the risk shows up. What he means is that we work with you before investing your assets to develop the appropriate portfolio, and especially the mix between stocks (risk) and fixed income (what we refer to as the foundation), so that you can emotionally handle the volatile times. To get the benefit of investing in stocks, we know there will be up and down periods. That is why someone may only be invested 20% or 40% in stocks, because they may not have the need, timeframe or emotional ability to handle the short-term volatility. We want to determine the right mix for you before the down market arrives.
We want to encourage you to remain focused on your long term goals. This is key to you reaching your financial planning goals. Does the decline in the markets affect your ability to go on a vacation or take your kids out to dinner? Has it changed your behavior? Has the world really declined in value by 10%…permanently? We don’t think so.
The world-wide reaction appears overstated to the latest data on the Chinese economy slowing, which was announced just after New Years. However, the past teaches us that financial market movements can be swift, unpredictable and often tend to be either too negative or too positive.
The price of oil and other commodities have been heading downward since the summer of 2014. Many attribute the huge decline in oil prices to a reduction or slowing in demand, such as by the Chinese. The Chinese will be using more oil in the future, just the pace of growth is slowing. However, the supply side of oil is the bigger and more important long term trend. Innovation and technological advances, particularly due to shale and fracking, will cap future oil prices. Iran is re-entering the oil market. I was surprised to learn that global oil prices are affected by changes in production of 1-2 million barrels per day, even though daily production is in excess of 90 million barrels per day. From 2009-2014, US oil production increased by 4 million barrels per day.
While pain will be felt in certain parts of the US and in oil producing countries, we still feel that there will be significant longer term benefits to much lower oil prices. We don’t expect oil to return to $75/barrel or more anytime in the near term. They will likely go higher than today, but we don’t expect to see gas prices of $3.50-4 per gallon for a long time.
Remember, “this time is not different” than other market declines. The cause for declines may change. We never know exactly how or why they occur, or for how long they will continue to go down. But we do know that the declines are not permanent. We want you to remember that.
Was this helpful to you? Please let us know. Send me a quick Yes or No or other comments at firstname.lastname@example.org. I plan to discuss other financial planning topics in the next few weeks, but if market volatility continues, let me know if you would like me to write about the financial market activity.
Links of the week:
For further reading on these topics, please see the following articles, which I found very insightful. If you cannot access the links, please email me at email@example.com.
After the Carnage, Shale Will Rise Again, Mark P. Mills, Wall Street Journal, January 19, 2016
Markets are Scaring Themselves, Alan S. Blinder, Wall Street Journal, January 21, 2016