- March 4, 2025
In the week or so since the end of the quarter, the direction I was going to take this post changed as quickly as the Duke basketball team’s fortunes over the weekend.
I think it’s worth sharing a summary and an image of the original message. In the first quarter, despite a fair amount of noise out of our nation’s capital, the looming possibility of tariffs, and weak US stock prices, portfolios generally benefited from global diversification (for the first time in a while) and a thoughtful allocation between stocks and bonds.
Figure 1: After several years of strong run from US stocks, it appeared that global diversification was staging a comeback in the first quarter.
That image quickly changed following the April 2nd announcement. By the end of the first week of the new quarter, all major categories of stocks were in negative territory for the year. US stocks had fallen below the correction level of 10% off their recent peak from February. To highlight one notable silver lining from the chart below, bonds are providing their intended offset to stocks.
Figure 2: A few days later, while still providing some diversification benefit, the impact is less. Bonds continued to hold up well. But I assume this picture may change by the time you read this.
But to address the elephant in the room, tariffs were announced last week and are set to take effect in a matter of days. Despite hearing this may be in the cards for months, markets did not take the news kindly. Perhaps markets thought it was a bluff, but to be fair, the announced tariffs could be broader and more punitive than markets were led to expect.
You’ve undoubtedly read or heard many comments from analysts and pundits about the potential effects of tariffs. I have, too, and it's enough to make one’s head spin. And that’s just the thing about this announcement – the range of possible economic outcomes is wider than it’s been in quite some time, which makes it even more difficult than it typically is to project outcomes.
Morgan Housel, author of The Psychology of Money, has written, “Stock prices are a number from today multiplied by a story about tomorrow.”
By this, he means that if a company’s stock price is its earnings times the multiple investors are willing to pay for those earnings, that multiple reflects the story about tomorrow. A more positive story and the multiple is higher. A less positive or cloudier story means the multiple is lower. Markets are now seeing a cloudier story about tomorrow. Markets do have a history of over-reacting when the story unexpectedly changes.
Some are saying “uncertainty is back,” which is a phrase I tend not to like because the future of markets is always uncertain. I prefer to think of uncertainty as a dial rather than an on-off switch, and the dial was just turned way up.
With the uncertainty dial turned up and all of the commentary circulating, it may be helpful to remember that nobody knows what the actual tariffs will be when implemented and their effects on economies, much less corporate earnings.
I would also caution that commentators who predict outcomes with the most confidence may be most likely wrong. Because uncertainty, according to the Oxford dictionary, is literally “the state of being uncertain.”
I'll share a few observations without violating my promise that these posts will always be prediction-free zones—and also to avoid my personal and professional preferences to avoid commenting on politics whenever possible.
Tariffs act as a tax on global economic activity and add friction to the system. Markets don’t like friction any more than they like increased uncertainty.
Added friction and higher economic uncertainty make it difficult for businesses to decide about future investments.
Finding a professional, independent economist who thinks tariffs are a good idea is difficult.
Whatever shape the tariffs and macroeconomic policies take, there will be winners and losers regarding industries, companies, and stocks. And, like always, knowing the winners and losers ahead of time will be challenging. This is perhaps a significant part of the changing narrative of the story about the future, as mentioned above.
As he so often does, Jason Zwieg of the Wall Street Journal clearly captures the mindset this moment requires:
To prevail over this chaos, you must think clearly at a time when many investors—and policymakers—are an emotional mess.
Intense uncertainty automatically triggers fear and stress in the human brain, infusing our bodies with the ancient fight-or-flight response essential to survival. Fear fixates our attention on the negative, makes us acutely sensitive to social signals, impedes our working memory and impairs our ability to think flexibly.
And he goes on to write:
That’s why thinking clearly right now is harder—but also more important—than ever.
It’s also worth recalling the wise words of Vanguard’s founder, Jack Bogle, who said, “Don’t just do something; sit there.”
When so many signals tell you to do something, your financial plan and a refresher on market history should provide the foundation for thinking clearly and “sit there.”
But there are also a few things that we can do – they’re just not things that disrupt an investment plan.
Your Financial Plan: Built on Market History and Expectations
In good markets and challenging markets alike, it's always important that we ensure your portfolio reflects your plan's goals, particularly your cash flows and investment horizon. This is to keep your portfolio rooted in controllable factors rather than the uncontrollable nature of short-term market movements.
It is often worth reiterating that your financial and investment plans are designed with the expectation that there will be recurring periods when stocks experience heightened volatility and declines. This is just part of investing in stocks. The cost of entry. The reason they return more than bonds and cash over the long-term.
These declines are pretty frequent. Nearly every year if we look at history.
Figure 3: Over the last 30 years, the average intra-year decline of stocks has been 15%. Even in good years. Despite the regular declines, the average annual return has been 11%. Stocks represented by CRSP US Total Stock Market Index.
Figure 4: Despite repeated 5%, 10%, and 20% declines over the years, stocks generated positive long-term returns for the patient diversified investor.
And there’s been no shortage of “Reasons to Sell” over the years.
Figure 5: There are so many more "Reasons to Sell" that could be put on this chart that it would be impossible to read. I had to choose some. But while we feel reasons to sell acutely, they only become viewed as reasons to buy in hindsight.
But despite those pullbacks and reasons to sell, a diversified portfolio of stocks has rewarded investors for maintaining a long-term focus.
But to benefit from stocks’ long-term returns, it's important to have solutions for short-term market declines. This is where I’ll return to the importance of your financial plan.
To grossly oversimplify, there are two types of investors: those drawing from their portfolio and those adding to it. If you’re still adding to your portfolio but within three to five years of drawing from it, we’ll include you in the former.
If you’re still adding to your portfolio, even though it is never fun to see the stocks you’ve accumulated go down in price, buying at lower prices will benefit you in the long run. Please continue taking advantage of this opportunity by sticking to your savings and investing plan through short-term volatility and declines.
If you’re drawing from your portfolio or about to enter that phase, these regular declines are exactly what the bond allocation in your portfolio is designed to solve. This is why that side of your portfolio is linked directly to your financial plan and the cash flows it requires. And why the bond allocation was put in place before market events like this (or 2022, 2020, 2018, and other significant declines) happened.
Whether it was last year as stocks were rising or now with stocks in decline, in both scenarios, the amount of bonds in your portfolio is based on your financial plan rather than a response to market conditions.
A Few Things We Can Do During Declines
Work the plan. Particularly for those drawing from portfolios, withdrawals will be funded from bonds as intended. For those adding to portfolios, unless otherwise planned, those additions will purchase stocks.
Rebalance. If bonds become overweight in your portfolio, we’ll sell some to return them to their target weight and use the proceeds to buy stocks.
Dollar Cost Average. If your portfolio is in the process of a dollar cost averaging plan, this market environment is what it is designed for, so it's important to continue that plan.
Tax Loss Harvest. For those with taxable brokerage accounts, selling investments with losses and reinvesting in similar positions maintains your portfolio’s diversification while capturing a loss that can save future taxes on capital gains.
Review your plan. If your goals and circumstances change, your plan should also change.
As a closing comment, the one thing that every stock decline has had in common is that they proved temporary. And they tend to start their recovery not when everything is better but when the news and developments begin to get “less bad.”
Please reach out to me or your PrairieView team if you’d like to talk.
Thanks for reading.
