This is the time of year when most investment writers predict what will happen in 2022. What I'd rather offer, though, is what's most likely to happen in the next 10, 20, or 50 years.
The short and easy answer to what will happen in tomorrow's market is the answer from J.P. Morgan when asked what the market would do next. "It will fluctuate," he replied.
Slip for sure. But there is a lot of truth, and the beginning of what we now call Modern Portfolio Theory (MPT) in its pithy response. Modern Portfolio has much to recommend.
The basic idea is solid: MPT is a way to optimize your returns based on your acceptable level of market risk. You achieve this by diversifying across different asset classes. Here is a matrix of what were the best and worst performing asset classes each year from 2000 to the end of the year 2020:
Ranked annual returns for major indices 2001-2020
During the go-go days of the dotcom jamboree in 2000, would you have chosen to invest in fixed income for the next 2 years? Would you have thought to transfer part of your portfolio to international assets in the next 3 years?
Since 2012, large caps have dominated. They have been the place to be for 6 of the 9 years. Will this continue?
Before you answer, remember that behavioral finance psychologists warn us about the cognitive rush for recency versus primacy. (Recentness, of course, means what happened most recently, and primacy means what might show the bigger picture.)
I have been a student of the markets for decades. I pay close attention to (which over the years I've narrowed it down to) just over a dozen key sources and indicators. However, I still don't have a crystal ball. That's why I stay diversified across asset classes.
Look again at the graph above. In "bad" years for investing, even the top dog didn't do well. On the other hand, in years when the top dog made double-digit gains, even those in the four or five categories among the top performers also performed well.
One lesson I can draw from this is that we can be wrong about the best estimate of our asset class and still do well as long as we avoid the worst of the worst. I trust that while different companies, different industries, different sectors and even different asset classes may change in popularity over time, human nature does not.
Diversification works; consistency wins
People tend to get more scared as better things come onto the market. That's why some of my clients who, in light of the poor Q3 2021 results and the poor December results, tell me they want cash.
I remind them that cash is not a particularly brilliant answer. Only once in the past 20 years has business been so volatile that cash was quite an achievement. And fixed income, in the form of bonds, are also consistently underperformers. If they are still concerned, I tend to send them in a Quality Dividend approach. The "Div Portfolio" in the chart above may never be the best performer, but it's never been one of the worst.
Diversification works. Yes, sometimes you won't be able to beat the market, as "market" for most investors is short for the big caps represented by the , but the goal of the intelligent investor is not to have something to talk about. bragging rights at this year's Christmas party. The goal is to protect ourselves in the weakest market environments and participate strongly in the best. The people who live to say, "I beat the S&P this year!" suddenly darken the next year or the next and the next and the…
Diversification works. Consistency wins.
I know that most readers read articles to get individual investment ideas. “Which stocks should I buy for maximum profit? Which company will perform better next year? What is this analyst's best idea for 2022?” That is putting the cart before the horse.
Once you've determined your risk tolerance, you can easily build your own matrix of what to invest in. This will save you countless hours of reading pleasure! If you're not comfortable buying, say, SPACs, why read about them? Great writing will sometimes affect our beliefs. Then there remains a share with the name Remorse (symbol: UHOH).
I leave you with no stock or fund recommendation to end this year. Indeed, it doesn't matter what "My #1 choice for 2022" is.
The bottom line is that you get the chance to become a calmer, more organized investor who pre-selects the asset classes you want to work with. You can then select the funds, ETF or OMF (Original Mutual Fund) or stocks that best fit your criteria.
You will definitely sleep better if you do this – and I imagine you will do it at least as well and probably better. Besides, I'm offering something better than a certain stock to buy. I offer this mantra:
Diversification works. Consistency wins.
