Lost Decade Ahead?

Lost Decade Ahead?

By James Parkyn - PWL Capital - Montreal

Stay the course with a diversified portfolio and long-term mindset  

Are we headed for a lost decade in equities? It’s a question on many lips after the stock market’s incredible multiyear bull run.

The worries got amplified in October when Goldman Sachs issued a grim report predicting a meager 3% annualized return for U.S. stocks over the next 10 years (or only 1% after inflation).

The report noted that the S&P 500 Index has boasted a 13% annualized return during the past decade. But high valuations and extreme market concentration—both near 100-year highs—will make it hard for stocks to repeat the same gains through 2034, the report said.

S&P 500 likely to trail bonds: Goldman Sachs

“It is extremely difficult for any firm to maintain high levels of sales growth and profit margins over sustained periods of time,” Goldman Sachs said. “The same issue plagues a highly concentrated index.”

The investment bank said the S&P 500 has a 72% probability of trailing bonds and a 33% chance of lagging inflation during the next decade.

The report prompted nervous news headlines. “Goldman Sachs Is Forecasting a Dead Decade for the S&P 500. Should You Sell Your Stocks?” one investing site pondered. “For a generation of investors accustomed to boom times, the new paradigm being contemplated would be harsh and unfamiliar,” The Globe and Mail said.

Lost decades predicted before 

But as The Globe went on to note, analysts have been warning of a “lost decade” since the start of the current equity bull market.

“We may be looking at a lost decade,” financial historian Niall Ferguson said in 2009. The S&P 500 went on to gain 16.6% a year in the decade that followed.

In 2013, economist John Hussman said “dismal investment returns” were so certain during the ensuing decade that they were “largely baked-in-the-cake.” In fact, annual S&P 500 returns averaged 11.8%.

Booms often end in busts

Giving heed to bearish fears can lead to serious portfolio underperformance. But does that mean we should ignore Goldman Sachs’ predictions altogether?

There’s no doubt equity returns have been above average. Historically, above-average performance is often followed by periods of more modest returns or even losses. A decade of 1% real returns is improbable, but it’s not impossible.

The Roaring Twenties were followed by the dismal 1930s. The great 1942-1965 market run ended with 15 years of doldrums in which the S&P 500 saw -1% real annualized returns from 1966 to 1981. After the remarkable 1982-1999 bull we had the misery of 2000-2008.

Market turns can’t be predicted   

Does this mean it’s time to pull out of stocks and hide under a rock? No one knows what the market will do. Even experts like Ferguson and Hussman get it wrong. Stocks could continue to soar. Or they could sell off or move sideways. Trying to time markets isn’t investing; it’s called gambling.

If we can’t predict the market’s turns, what can we do? At PWL, we’ve studied the data and determined that the best response is to diversify, maintain a disciplined long-term investor mindset and leave the forecasts to the horoscope pages.

Stick to the plan

Diversification also plays another role. It accounts for the fact that most wealth creation in equities comes from a tiny number of companies. Just 4% of stocks accounted for all U.S. stock market wealth creation from 1926 to 2023 above a risk-free investment in Treasuries, according to a recent study.

We can’t know which companies will be the future 4-percenters. But we can be sure to own them by buying broad index funds that hold all the companies in various markets.

No bull market lasts forever. But a long-term mindset and an investment strategy suited to your objectives and risk tolerance can give you the confidence to ignore daily market noise and not worry about whose prediction is right.

Read more commentary and insights on personal finance and investing in our past blog posts, eBooks and podcast on the website of PWL Capital’s Parkyn-Doyon La Rochelle team and on our Capital Topics website.   

TAKE ADVANTAGE OF THE EXPERTISE OF JAMES PARKYN, Portfolio Manager at PWL Capital Montreal to determine the best solution for you.

2024’s Bullish First Half

2024’s Bullish First Half 

By James Parkyn - PWL Capital - Montreal

An impressive start for equities capped by recent turbulence: part one of our two-part mid-year review 

In this post, we’ll review the performance of the markets so far in 2024. It’s a subject we cover twice a year to help you better evaluate your portfolio’s performance. 

Our review will come in two parts. First, we present our mid-year market check-in. In our next blog post, we’ll take a look at the market turbulence of the first few days of August and our thoughts on steps to help protect your portfolio. 

Recent volatility aside, the year 2024 got off to a great start. Equities built on a powerful rally in 2023 that saw the S&P 500 Index return an impressive 15.8% in the last two months of that year. 

Rally came despite uncertainties 

As we mentioned in our recent podcast, the strong results for 2024 came despite a load of uncertainties. Stubborn inflation meant prolonged high interest rates that impacted the economy. Market pundits speculated about the possibility of a soft landing or even recession. 

This has been coupled with instability over Russia’s war with Ukraine, conflict in the Middle East, U.S.-China superpower rivalry and heated election campaigns in major powers, including the U.S.  

But despite the headwinds, equity markets have shrugged off the doubts. As the Wall Street saying goes, the bull market has been climbing a wall of worry. As well, gross domestic product growth has remained positive in Canada, the U.S. and the Euro Area, and inflation has started to decline, allowing some central banks (like Canada’s) to start cutting rates. 

Short-term bonds outdid longer-term 

How did markets do in the first half of 2024? Starting with fixed income, yields in Canada and in the U.S. remain well above the average of the last 20 years. 

In Canada the yield on the 10-year Government of Canada bond was 3.5% on June 30, which is 100 basis points above the 20-year average of 2.5%. In the U.S., the yield on the 10-year Treasury note was approximately 4.4% on June 30, or 140 basis points above the 20-year average of 3.0%.  

Year to date, Canadian short-term bonds were up 1.6% as of June 30, while the total bond market, which holds longer-dated maturities, was down by 0.4%. (Remember that bond yields and bond prices move in opposite directions.)  

Almost all equity indexes hit new highs 

Equity markets have done much better. All the main indexes we follow had strong positive returns in the first half of the year, making new all-time highs. U.S. equities have done especially well, with the S&P 500 hitting a remarkable 31 new highs by mid-year. 

An exception has been the MSCI Emerging Markets Index, which was impacted by the poor performance of Chinese equities which despite their recent surge remain down close to 42% from their all-time high. 

In Canada, the S&P/TSX Composite Index was up by 6.1% in the first half. Large and mid-cap growth stocks led the way with a 7.4% gain compared with 4.7% for large and mid-cap value stocks. Small cap stocks outperformed large and mid-cap stocks with a performance of 9.3%.  

S&P 500 had its 13th best yearly start since 1950 

South of the border, U.S. equities were also on a tear. The S&P 500 Index had its 13th best yearly start since 1950, while the U.S. total market index had a strong performance of 13.6% in U.S. dollars or 17.2% in Canadian dollars. 

Driven largely by soaring tech stocks, U.S. large and mid-cap growth names did especially well. They had an extraordinary 24.6% return as of June 30 in Canadian dollars compared to 10.1% for large and mid-cap value stocks. U.S. small cap stocks, however, underperformed. 

International developed-country large and mid-cap stocks also did nicely—up by 11.1% in local currencies. Small cap stocks trailed, however, with a performance of just 3.8%. Emerging markets stocks also performed well, gaining 11.2%; again, value and small-cap stocks trailed growth and large cap. 

“Vulnerable to a major correction” 

When François and I did our mid-year market review podcast on July 31, we wondered how long the outperformance would persist. “The noise in the financial media, from market analysts, is that valuations levels are stretched and are vulnerable to a major correction,” we said. 

Although no one can predict the future and the market is a random walk, the equity markets did correct sharply in the days after our podcast. 

In our next blog post, we’ll review what happened and share our advice on how to help protect your portfolio in times of turbulence. 

More detailed market statistics can be found on our Capital Topics’ website. Read more commentary and insights on personal finance and investing in our past blog posts, eBooks and podcast on the website of PWL Capital’s Parkyn-Doyon La Rochelle team and on our Capital Topics website.  

TAKE ADVANTAGE OF THE EXPERTISE OF JAMES PARKYN, Portfolio Manager at PWL Capital Montreal to determine the best solution for you.

Magnificent 7 Peaks and Perils

Magnificent 7 Peaks and Perils 

By James Parkyn - PWL Capital - Montreal

Today’s high-flying stocks are rarely tomorrow’s. Research shows you lose when you chase past performance 

Yesterday’s home runs don’t win today’s games. Keep this classic truth from Babe Ruth in mind when you hear the market chatter about the “Magnificent Seven” stocks.  

These are the seven high-flying tech mega-companies that have investors and commentators abuzz lately: NVIDIA, Microsoft, Apple, Alphabet (Google), Amazon, Meta (Facebook) and Tesla. 

The Mag 7, as they’re sometimes called, performed exceptionally in 2023, ranging from a 48% gain for Apple to an astonishing 239% for NVIDIA. As a group, these seven giants returned 75.7% last year, more than triple the 24.2% gain of the S&P 500. As of mid-June, the Mag 7 made up 28.8% of the S&P 500 index’s market cap. 

(I talk more about the Magnificent Seven in my latest Capital Topics podcast with François Doyon La Rochelle.) 

Not a new phenomenon 

The seven-star stocks certainly have impressive results, but this is far from being the first time a small handful of darling companies has turned heads or dominated markets. In the late 1990s, the dot-com companies were all the rage. In the 1970s, we had the Nifty Fifty. 

The Mag 7 stocks themselves are a successor to the FAANG big tech stocks (Facebook, Amazon, Apple, Netflix and Google), which in turn succeeded the FANG stocks. Today's stock concentration is also nothing new. In fact, while NVIDIA is 7% of the total U.S. stock-market value, that’s small potatoes compared to AT&T, which was 13% of the market in 1932, the Wall Street Journal reports. In 1928, General Motors was 8% of the market, while in 1970, IBM made up 7%. 

High performers underwhelmed 

As the examples of AT&T, GM and IBM show, market leaders don’t stay at the top forever. In January, when Amazon became the world’s largest company by market cap, the Wall Street Journal took a look at what happened to the 10 previous companies that held the top spot. 

In the five years before they reached No. 1, these companies outperformed the market by an average of 48 percentage points, the newspaper found. But over the five years after they hit No. 1, they underperformed the U.S. stock market by 6 percentage points on average. 

It’s like the old maxim says: Past returns are no guarantee of future results. Indeed, if we can be fairly certain of anything, it’s that today’s market heroes are unlikely to be tomorrow’s. 

Top 10 no more 

In 2000, the top 10 stocks in the S&P 500 included tech giants Microsoft, Intel, Lucent, IBM and Cisco. Today, except for Microsoft, none of these companies or any of the other then-top-10 stocks are in the list. IBM was one of the largest U.S. stocks for over six decades and made up 6.4% of the S&P 500 index in 1985; as of late June, it sits at No. 56 and has a weight of 0.35%. 

Another classic example is General Electric (GE). It was in the top 10 for nine decades, but is now No. 48. In fact, Morningstar recently named GE to the top spot in its list of “15 Stocks That Have Destroyed the Most Wealth Over the Past Decade.”  

GE’s market cap dropped by $55 billion over the 10-year period ending in 2023, by far the most of any U.S. stock, Morningstar said. 

Diversification is key 

IBM and GE aren’t unique. A former Yale University finance professor, Antti Petajisto, looked at data going back to 1926. Stocks that were among the top 20% performers over the prior five years had a median market-adjusted return 17.8% lower than the broad equity market during the ensuing 10 years, Petajisto found. 

The results suggest it’s a bad idea for investors to hold a high portion of their assets in single stocks, he said. “Concentrated stock positions usually contribute negatively to portfolio returns… The case for diversifying concentrated positions in individual stocks, particularly in recent market winners, is even stronger than most investors realize.” 

High-flying stocks come and go 

At PWL, we fully agree. This is why we invest in a broadly diversified portfolio using evidence-based strategies. That has allowed us to benefit from the Magnificent Seven’s gains through our ownership of broad index funds. And it also means we’re well positioned to benefit from the next generation of market stars. 

At times like these, we like to refer to Warren Buffett’s words of wisdom. In 2018, Buffett was asked by an investor at Berkshire’s annual meeting why he hadn’t bought Microsoft. “We missed a lot in the past, and I suspect we’ll miss a lot more in the future,” Buffett responded. 

In other words, high-flying stocks come and go. Swinging wildly for the fences doesn’t win the game. Solid, consistent play over the long run does. 

Find more commentary and insights on personal finance and investing in our past blog posts, eBooks and podcast on the website of PWL Capital’s Parkyn-Doyon La Rochelle team and on our Capital Topics website. 

TAKE ADVANTAGE OF THE EXPERTISE OF JAMES PARKYN, Portfolio Manager at PWL Capital Montreal to determine the best solution for you.

2024 budget misses the mark

2024 budget misses the mark

By James Parkyn - PWL Capital - Montreal

The 2024 federal budget unfairly targets higher-income earners, potentially stifling investment

The 2024 federal budget presented on April 16 is a disappointment and a missed opportunity.

Finance Minister Chrystia Freeland’s budget unfairly targets higher-income earners and businesses in a way that could curtail investment.

Meanwhile, a significant potential revenue source exists that the federal government could do more to tap: those who don’t pay the taxes that they legally owe.

$19 billion capital-gains tax hike

The budget introduces new spending of $52.9 billion over five years on affordable housing, pharmacare, the Canadian Armed Forces, artificial intelligence technology and other programs.

Where will all this money come from? one might ask. A large portion—$19.4 billion (including $6.9 billion this year)—is to be paid for by increases to capital gains taxes. In particular, the capital gains inclusion rate—the amount of capital gains subject to tax—is to be increased from one-half to two-thirds on capital gains that exceed $250,000 when realized on or after June 24, 2024, in personal taxable accounts.

For investments held in corporations and trusts, there is no $250,000 exemption; all capital gains will be taxed at two-thirds.

For employees who exercise stock options granted by their employer, there will be a one-third deduction of the taxable benefit above $250,000. For situations where the taxable benefit is up to a combined limit of $250,000 for both employee stock options and capital gains, taxpayers will still be entitled to a deduction of one half.

The 2024 budget includes another notable change that will affect investors and businesses. The budget proposes to increase the lifetime capital gains exemption from $1,016,836 to $1,250,000 on gains realized on the disposition of qualified small business corporation shares and farm or fishing property as of June 25, 2024.

“Precisely the wrong policy”

The federal government has said the capital-gains tax changes will affect just 0.13% of Canadians with an average gross income of $1.4 million. But we feel the changes are a disincentive to investment, may cause investors and business owners to sell assets, and could lead some Canadians to change estate planning.

In more extreme reactions, some ultra-wealthy Canadians may decide to emigrate from Canada and give up their tax residency. This would represent a huge opportunity cost of lost income-tax revenues to all levels of government.

In an editorial on the budget titled “The Liberals’ capital-gains tax hike punishes prosperity,” The Globe and Mail said, “The Liberals have gone to great pains to portray the capital-gains changes as a tax paid by the ultrawealthy… There is another basic principle of taxation policy: Whatever you tax, contracts. Higher tobacco taxes mean fewer cigarettes will be bought, for instance—a point Ms. Freeland’s budget makes in hiking excise taxes.

“What’s true for smokes is true for investment: increased capital-gains taxes will be a disincentive. Given Canada’s deepening productivity woes, it is precisely the wrong policy.”

Higher-income Canadians already pay fair share

We can only concur. As this blog noted last fall, higher-income Canadians already pay more than their fair share. The top 1% of income-earning families pay 22.5% of the country’s personal income taxes, while the top 10% pay 54.4%, according to  Statistics Canada data for 2021.

Not only is it unfair to raise taxes even more on higher-income earners, what’s especially galling is that the government has a large source of revenues it could pursue more intently instead: people and businesses that avoid paying taxes they legally owe.

In an eye-opening report, the Canada Revenue Agency has estimated it was missing out on up to $23.4 billion each year in taxes owed to the government, which it didn’t collect. This is over three times more than the $6.9 billion to be raised this year by the capital-gains tax changes.

The 2024 budget does propose new funds for the CRA to reduce call center wait times. But the CRA would also benefit from increasing funding for tax enforcement to crack down on tax evasion, which could help the government collect some of these missing billions.

This seems like a much more economically more sensible solution—not to mention a fairer one—than soaking law-abiding taxpayers and businesses even more.

We recommend consulting your financial and tax advisors to get clarity on how to optimize your situation under the proposed rules. In many cases, for example, it’s advisable to defer selling assets; if you realize gains now, you pay tax immediately and have less money after tax to reinvest.

That said, everyone’s situation is different. A good advisor can help you crunch the numbers to determine the best solution for you.

Find more commentary and insights on personal finance and investing in our past blog posts, eBooks and podcast on the website of PWL Capital’s Parkyn-Doyon La Rochelle team and on our Capital Topics website.

TAKE ADVANTAGE OF THE EXPERTISE OF JAMES PARKYN, Portfolio Manager at PWL Capital Montreal to determine the best solution for you.

Why Your Investing Perspective Needs to Get Much Longer ?

Why Your Investing Perspective Needs to Get Much Longer ?

By James Parkyn

We often talk about the need for investors to take a long-term perspective and look at periods of volatility through the lens of market history.

That’s why we’ve made it a tradition to report each year on the latest edition of the Credit Suisse Global Investment Returns Yearbook. The yearbook is an invaluable resource for investors because it draws lessons from a database of asset returns from 35 countries dating back to 1900.

This year’s yearbook includes an important discussion of just what constitutes a long-term perspective. That’s especially useful after an unusual year when investors suffered negative returns in both the stock and bond markets, amid high inflation, rising interest rates and the war in Ukraine.

The yearbook notes that stocks have outperformed all other asset classes in every country since 1900. The U.S. market, for example, provided a 6.8% annualized real return between 1900-2022. But it’s been far from a smooth ride.

With last year’s decline, we’ve now lived through four bear markets in equities since 2000, including the brief but harrowing COVID crash in 2020. While these episodes have been difficult, the important thing to remember is that living with that kind of volatility is the price you pay to earn a risk premium from stocks, and to a lesser degree bonds.

But to actually bank that premium, you must remain invested and well-diversified through positive and negative periods in the markets. And those periods can be deceptively long. The yearbook offers two examples where 20 and even 40 years of market data could be deceiving.

The first is what occurred in the stock market in the 20 years leading up to 2000. During those decades, global stocks performed exceptionally well, delivering a 10.5% real annualized return. Then, the dot.com bubble burst, kicking off what’s known as the lost decade for stocks when world equities generated a negative real return of -0.6% a year.

The yearbook’s second example is from the bond market where many investors were shocked by heavy losses in 2022. They’d become accustomed to reliable gains over the last 40 years. Indeed, in the four decades to the end of 2021, the world bond index delivered an annualized real return of 6.3%, not far below the 7.4% return from world equities.

It turns out those 40 years were a historic golden age for bonds, meaning, by definition, they were exceptional. When the turning point came in 2022, it was drastic. In just one year, the real return of world bonds plummeted 27%!

“To understand risk and return in capital markets…we must examine periods much longer than 20 or even 40 years,” the yearbook says. “Since 1900, there have been several golden ages, as well as many bear markets; periods of great prosperity as well as recessions, financial crises and the Great Depression; periods of peace and episodes of war. Very long histories are required to hopefully balance out the good luck with the bad luck, so that we obtain a realistic understanding of what long-run returns can tell us about the future.”

In other words, it’s important to guard against recency bias, the tendency to give undue importance to recent events. And, when it comes to the markets, recent should be measured in terms of decades.

Investors are too often lulled into complacency by trends that are too short to make prudent asset allocation decisions. Maintaining a disciplined approach to diversification and portfolio rebalancing through thick and thin will remain the best way to combat recency bias and other mental errors that can undermine your financial plan.

For more on the Credit Suisse yearbook and a discussion of the new First Home Savings Account, download episode 52 of our Capital Topics podcast and subscribe to get more insights into the capital markets, personal finance and growing your wealth.