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You’ve probably heard about the Dow hitting some new records, from reaching incredible highs to having the highest point drop in history.
At Glassman Wealth, we like to look beyond the big numbers, and examine the details. Even with the recent volatility, there’s a market pattern that started last year, and continues. You might have missed that the stocks that drove that increase in 2017 were very different that the ones that generated the greatest returns in 2016.
We know this thanks to the help of so-called “Style Boxes” provided by Morningstar that break down stock market returns into different segments based on asset classes and the size of the underlying companies. They are nine-square grids — tic-tac-toe anyone? — that classify securities by size along the vertical axis, and by value and growth characteristics along the horizontal axis.
To further define our terms, Value stocks are those that the market prices on the lower end because they are considered more stable. These stocks might be viewed as undervalued in price at the time, but have good fundamentals and will hopefully be worth a long-term investment, such as utilities or finance companies.
Growth stocks, on the other hand, refer to companies that the portfolio managers believe will increase their earnings faster than the rest of the market, and instead of paying dividends, they tend to reinvest all of their profits in growing the business. Think biotech and cutting-edge tech businesses.
Blend refers to a mix of both Value and Growth stocks.
What about in 2018?
Although our new style boxes are showing a lot more red, the rotation that started in 2017 has continued through this market downturn.
So—what does all of that mean for me?
The first big takeaway is that if you try to chase market returns, you’re likely to lose. If you had seen the 2016 chart at the start of 2017 and decided to move all of your assets into Value stocks, then you would have missed the gains from the Growth category. Since we don’t know what the next year will bring, it would also be a mistake to own only Growth stocks for 2018.
We saw a very similar market flip back in 1999 and 2000. These kinds of performance rotations happen all the time.
That’s why the second key insight we can learn from these charts is that the best strategy is not to try and time the market, but rather build a well-diversified portfolio. Focusing on predicting the market, and investing based on fear or greed, rarely ends well.
If you had a diversified portfolio over the past two years, then you would have benefited from the high performers, without falling victim to the downshift if you had bet only on a single category of stock.
As we head into 2018 with the added volatility, use this intriguing insight to your advantage. Build a well-diversified portfolio that will help you weather the storms that the market may face in the months ahead and beyond.