Investor checklist as gloom deepens
There are times when almost nothing works for investors. This is one of those times, and it may soon severely test your patience.
Stocks worldwide are suffering a relapse of their winter sell-off, with the Dow Jones industrial average Friday tumbling 220 points to its lowest level since mid-March.
Home prices continue to slide, money market funds and bank savings certificates pay pathetically little, and lately the market value of high-quality bonds such as U.S. Treasuries has been falling as long-term interest rates have jumped because of inflation worries.
Investors still are making money in many commodities, including oil, which refuses to end its levitation act. But in a diversified portfolio any gain in the commodity portion probably is providing a modest offset, at best, to losses in other investments.
The root cause of markets’ turmoil, of course, is the troubled U.S. economy. Many investors believed the outlook was improving in May -- or at least that things weren’t getting significantly worse.
Now, doubts about the economy are rife again, in large part because of the hit consumers are taking from the relentless rise in energy and food costs.
“The squeeze on consumers is as bad as I can remember in three decades,” said Nick Sargen, who oversees $30 billion in client assets as chief investment officer of Fort Washington Investment Advisors Inc. in Cincinnati.
That’s serious enough, but it’s now paired with fears that the U.S. financial system is again at risk of being swamped by banks’ loan losses.
The Federal Reserve hoped it had averted that danger in March by making huge new credit lifelines available to financial firms. But the loan-loss picture for many banks and brokerages has worsened in recent weeks, driving the companies’ stocks to new multiyear lows.
Between the inflation threat and the potential for a financial-system meltdown, “There’s just too much bad news out there” for markets to handle, says Brian Gendreau, strategist at ING Investment Management in New York.
That could make the next few weeks or months a nerve-wracking time for anyone with a nest egg.
How to cope? First, if you truly are investing for the long haul, and you’re happy with your portfolio mix, realize that you may not have to make any changes.
But if your tolerance for a new round of paper losses is low, consider whether you should be paring back riskier investments -- while keeping in mind that it’s never a good idea to be completely out of the stock market (because it can turn up as quickly as it can turn down).
Here are three of the most serious tests investors may face in the near term:
Will U.S. stock indexes drop below their March lows? Most key indexes, including the Dow, the Standard & Poor’s 500 and the Russell 2,000 small-stock index, hit multiyear lows on March 10, amid the first round of worries about a financial-system bust. As those fears abated after the Fed opened its lending window wider, the stock market rebounded from late March into May.
If major indexes now fall back through their March lows, the spring rebound will have been the proverbial sucker’s rally. Investors, thus burned, may be reluctant to step up and buy again any time soon. A dearth of buyers could mean price declines would be magnified amid fresh selling.
The Dow, now at 11,842.69, is just 0.9% above its March 10 close. But most broader indexes have bigger cushions. The S&P; 500 is 3.5% above its March low; the Russell 2,000 is 12.7% above its nadir.
Will foreign stock markets continue to fall harder than the U.S. market? Americans have poured huge sums into foreign-stock mutual funds since 2002, riding big gains in overseas markets and the extra benefit of the weak dollar’s boost to their returns.
But this year, stocks in many places overseas already are down more than the U.S. market, as worries mount about the potential for a global economic slowdown.
The S&P; 500 index’s year-to-date loss is 10.2%. The German market, by contrast, is down 18.5% in euros, and even translated into dollars the loss (12.7%) is worse than the S&P;’s.
The declines have been more severe in many emerging markets that have been favorite destinations for U.S. money. India’s stock market is down 34% in dollars this year.
The risk is that a deepening slide in overseas markets could spur Americans to take profits in those stocks for perhaps the first time in this decade. That could make fears of heavier losses self-fulfilling.
Will Treasury bond yields continue to rise? The jump in bond yields since mid-March partly reflects growing anxiety about inflation. The 10-year T-note yield, at 4.17% Friday, is up from 3.31% in mid-March.
Because rising rates devalue existing bonds, some investors have incurred paper losses on bond mutual funds they had turned to as a haven earlier this year.
The share price of the popular Pimco Total Return bond fund, for example, is down nearly 4% since it peaked on Jan. 22. That may not sit well with investors who had figured bonds were ultra safe.
What’s important to keep in mind is that, as a bond investor, you’re earning interest that at least partially offsets your principal losses. And in any case, with high-quality bonds you’re almost never at risk of losing the kind of money you could lose in stocks.
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