Eye on the Market
ICMA-RC's Chief Investment Officer Wayne Wicker Comments on 2008 Financial Markets Volatility
Wayne Wicker is Senior Vice President and Chief Investment Officer of ICMA-RC. ICMA-RC’s investment products include the Vantagepoint Funds family of mutual funds, as well as VantageTrust PLUS Fund, which is one of the industry’s oldest stable value funds.
In a series of questions and answers, Wicker comments on the financial markets and their impact on retirement savings and planning.
Based on your experience in the investment community, how would you compare the 2008 market with other times in history?
Investors’ emotions tend to impact their decision making more in bear markets than in bull markets. In 2008 it seems, in at least some markets, emotions heavily influenced investor decisions more than economic and business fundamentals. Despite declining interest rates, many investors have moved from equities (stocks) and high yield fixed income securities to the relative safety of high quality fixed-rate investments, which at times in the fourth quarter of 2008 pushed short term Treasury yields into negative territory. For many investors today, lowering risk and preserving capital are more important than seeking high returns. We saw evidence of that in the significant net cash flows to our stable value PLUS Fund.
Did you see any change in the level of interest in the PLUS Fund?
In the third quarter of 2008, the PLUS Fund had net cash flow of $257.6 million. The strong inflows continued in the fourth quarter of 2008, reaching $233.5 million, as people sold investments and transferred the proceeds to the PLUS fund, which has historically had a much lower risk profile. Within investment circles, this type of risk reduction activity is referred to as a “flight to quality”. Given the diversified structure of the PLUS Fund, we have found some attractive opportunities in the market to put this new cash to work.
Can you comment further on the “flight to quality” concept?
The “flight to quality” concept describes investors shifting assets into less aggressive areas of the market during periods of uncertainty. Some examples are moving assets from stocks to bonds, from high-risk countries to low-risk countries, or from corporate bonds to U.S. government bonds. The fourth quarter of 2008 saw an intense “flight to quality” as investors sought the perceived safest of securities, U.S. government bonds, even as Treasury yields continued to fall. The buying of U.S. government bonds drove their price up and the selling of other assets drove prices down for those assets. These types of market movements are analogous to a pendulum swinging. Sometimes the pendulum swings too far, creating potential investment opportunities.
From your experience with earlier market downturns, what signs will signal that a recovery is underway?
For the recovery to begin, we believe companies have to gain access to money and credit because capital allows you to grow earnings. However, the lack of liquidity in the market will extend the time it takes for a recovery to develop.
What kind of market rebound do you think will occur?
The financial markets are a leading indicator of an economic recovery and while we cannot predict how the markets will perform, they historically turn around before the economy does. The important thing to remember is that a market recovery often happens very fast. History tells us that the initial bounce is often big. In the first two months of past recoveries, the S&P 500 Index has risen an average 25 percent. However, as well know, past performance does not guarantee future results.
Another telling fact is a study that shows missing the five best days in the market between 1997 and June 30, 2008, would reduce the average annual return to 2.94 percent from 5.62 percent. Miss just the15 best days over the same period and your average annual return is a negative 1.2 percent. While bear markets historically show many stock market rallies of five percent, 10 percent and even 15 percent – only to retrench to previous lows – long term investors may not want to be out of the market when a sustained recovery begins.
What actions do you recommend investors take now to be prepared for a recovery?
Market volatility such as we have experienced in the last two quarters has caused major changes in most investors’ holdings. As a result, portfolios may be out of balance and need to be reallocated so that they again reflect an investor’s goals, time horizon and tolerance for risk. This is an excellent time to look at your savings and your retirement plan to see if you are on track. A financial adviser can help you set a course and make any changes or we have many tools and resources available on www.icmarc.org/smart.
What lessons do you believe an investor should take from what happened in 2008?
The lesson from 2008 is that there often are periods of time when investors are aggressively chasing the highest return and other times when, fear not fundamentals rule the financial markets. Neither is the path to building retirement security. Instead, investors should focus on fundamentals and keep their retirement time horizon in mind while maintaining an outlook that resists the urge to buy and sell based on short term market actions. Many investors may want to keep a diversified mix of equities, fixed income and cash and contribute regularly to their retirement savings. Investors should establish a plan to review their course on a periodic, but not too frequent, basis.