The world’s equity markets combined to produce strong returns during this year’s third quarter. The S&P 500 gained 4.48% and the MSCI EAFE Index of foreign stocks advanced 5.47%. Over the trailing 12 months, the MSCI All Country World Index has gained a remarkable 18.99%, after adjusting for foreign currency translation. Fixed income markets have been active as well; especially the yields associated with shorter term investments. The yield on a 6-month Treasury, for example, climbed from 0.65% on January 3, 2017, to 1.20% as of the closing day of the third quarter. Longer term Treasury Notes have remained a bit more stable over the same time period, however, the yield curve has experienced an overall flattening trend since the start of 2017.
Given the relatively long bull market for U.S. stocks and the more recent rally in foreign shares, some investors might be tempted to prognosticate a market peak. After all, while financial markets have charged ahead through most of 2017, the geopolitical landscape has become somewhat volatile and could present future headwinds for corporate profits and share prices. Markets are also approaching the 10 year anniversary of the last market peak and memories of the great financial crisis remain fresh in our minds.
We at Schultz Collins do not attempt to predict the timing of short-term market adjustments, because almost all the evidence indicates that it is impossible to do so successfully. Rather, we encourage you to pursue a consistent strategy that eschews market timing altogether. Over the long run, a consistent, steadfast strategy will enable you to reap substantial market returns, comprised of both the appreciation of asset prices and the reinvestment of dividends. Meanwhile, disciplined rebalancing to your target allocation will have the double effect of managing your overall risk by buying low and selling high.
Speaking of dividends, the current yield on the S&P 500 stands at approximately 2.1%, while the yield on the 10-year U.S. Treasury is about 2.3%. Thus, the yields are roughly equivalent. Even when stock prices fall temporarily, stock investments continue to pay dividends – literally and figuratively. If the U.S. stock market were to fall precipitously tomorrow, the dividend yield on the S&P 500 would increase as a result. This occurs because the dividend remains relatively constant even as the overall price level of the index declines, resulting in a higher dividend payout ratio. The same mechanism also acts to buffer a Portfolio’s value during volatile periods – as a Portfolio’s value falls, its dividend yield increases. Of course, firms can always cut their dividends during adverse periods. But the timing of such a dividend reduction is unlikely to coincide precisely with a precipitous market drop, or to occur for all firms simultaneously. The increased dividend yield to a falling stock price can be a handsome reward for those investors who stay the course. If you turn to page 2.1 of the attached quarterly report, you will notice just how important the reinvestment of dividends has been in terms of accumulated returns over the course of your investment program.