The dramatic turbulence of the markets so far in 2020 is undoubtedly upsetting to clients. While volatility is expected, the schizophrenic swings of the past several months are atypical, as is the situation of dealing with a global pandemic.
However, understanding the size and variation in average returns among a variety of asset classes might help provide some perspective for anxious clients. To that end, it is useful to examine the monthly returns of 12 core asset classes over the past 22 years, from Jan. 1, 1998, through Dec. 31, 2019.
As shown in the table “On average,” large-cap U.S. stock, represented by the S&P 500, has had monthly returns that range from -0.66% to 1.97%. The best two months over the past 22 years have been March and April. We see the same pattern among midcap U.S. stocks — the best returns have been in March and April as well. Small-cap U.S. stocks, as represented by the S&P Smallcap 600, tend to have their best returns in December, with April not far behind.
Non-U.S. stock (both in developed and emerging foreign countries) follows the same pattern as small-cap U.S. stock, where we see the best returns in April and December.
Global real estate is a spring bloomer as well, with an average return of 2.62% in April and 2.39% in March. Natural resources stocks (as represented by the S&P North American Natural Resources Index) follow the same spring pattern, with April posting an average return of 3.57%, followed by March with a 3.03% return. All returns shown in the table are gross returns and have not been adjusted for inflation or taxes.
Commodities have struggled over the past two decades, as seen by the 22-year average annualized return of 3.40%. However, commodities tend to perform well in February and April.
So far in 2020 the overall picture is extremely rough. As shown in the table, January 2020 was a tough month for nearly every so-called engine asset class. Large-cap U.S. stock, for example, had a return of -0.04%, while midcap U.S. stock had a return of -2.61%. Natural resources and commodities were hardest hit, with returns of -8.26% and -8.68% respectively.
The only engine asset class with a positive return in January 2020 was global real estate. Among the four portfolio brakes, January 2020 was a banner month when compared against their 22-year averages. For instance, U.S. bonds average a monthly return of 0.41%, but in January 2020, the return was 1.92%.
In a single word: 'Crunch'
Now to February 2020. In a single word: Crunch. All eight engine asset classes had huge losses. The four brake asset classes had above average returns, except for cash, which was slightly below the average monthly return of 0.16%.
March 2020 is obviously breaking the historical pattern. As of March 23, the S&P 500 is down roughly 23% since Feb 28. Certainly, that is an epic departure from the average March return of just under +2%.
Also shown in the table is the worst single-month return for each asset class over the 22-year period. For example, large-cap U.S. stock had a return of -16.79%. Guess when? October 2008. Global real estate lost over 30% in a single month — also in October 2008. The losses we are experiencing now are dramatic, but we have seen similar losses before. And we recovered.
It’s clear in the table that the eight asset classes representing the engines of performance in a portfolio are subject to negative monthly returns. In the case of large and midcap U.S. stock, the average returns in August and September have been negative over the past 22 years. Small-cap U.S. stock tends to have negative monthly returns 1/3 of the time on a monthly basis. Non-U.S. developed stock (the MSCI EAFE Index) has produced negative monthly returns in five out of 12 months since 1998.
The other portion of the 12-asset portfolio is composed of four fixed-income asset classes: U.S. aggregate bonds, U.S. TIPS, non-U.S. bonds and cash. The returns of these four portfolio brakes tend to be highest in January and August — which is very convenient, because six of the eight portfolio engines have produced negative returns (on average) in August. Also worth noting is that the four fixed-income asset classes do not produce negative monthly returns on average, with the slight exception of non-U.S. bonds in the month of October.
Finally, we see that a 12-asset portfolio produced — on average — positive monthly returns in nine out of 12 months. The exceptions were an average return of -0.06% in May, a return of -0.23% in August and an average return of -0.03% in September. The best two months for a broadly diversified portfolio over the past 22 years have been in March and April. Not far behind is December, with an average return of 1.34%. Even a broadly diversified portfolio is subject to an uncomfortable monthly loss, as noted by the -16.60 return that occurred in October of 2008. That type of loss is clearly unusual, and clients need to see it for what it is — an aberration.
Overall, it’s clear that the growth assets in a portfolio tend to have their best performance in the spring — specifically March and April. Fixed-income portfolio ingredients tend to perform better in August, and a broadly diversified portfolio tends to produce its best returns in the spring, and again in December.
If, however, the spring of 2020 doesn’t follow the historical pattern of returns, we can point to some rather extraordinary circumstances — most notably the economic disruption caused by the COVID-19 virus. But in the meantime, the price of large-cap U.S. stock has been reset to the start of 2017, or even back to the spring of 2016 in the case of midcap and small-cap U.S. stock. If your clients wish they had invested back then, they may have a second chance now.
