by: Brian Davies, CFA – Chief Investment Officer
The capital market’s historic moves over the last month have everybody on edge and asking what’s next. While we can’t predict what will happen in the following weeks, we do think most assets have sold off to such an extent that their future risk-adjusted return profiles are the best we have seen in a decade. With this writing, we would like to fill you in on what we have been doing during this period of heightened volatility and how we are thinking about things moving forward.
What have we been doing
Tax Loss Harvesting:
First and foremost, we would not be doing our jobs if, for taxable accounts, we did not use this opportunity to recognize losses for the benefit of building up a client’s tax loss carryforward and helping minimize future tax bills. These opportunities present themselves from time to time and our clients can benefit greatly if we are proactive in building up the cache to help manage taxes moving forward. While we raised a bit of cash doing this, we have aggressively looked to invest in like securities to maintain the appropriate asset allocation in accounts. Tax management is just part of the holistic service offering we strive to provide clients.
Being prudent and patient:
We have been active in adding risk to portfolios where opportunities present themselves. However, because we don’t think the markets will see a V-shaped move back higher we are being prudent and patient. We have broken our buys into multiple steps so we can avoid using all the capital we have available in one trade. An example of where we see attractive opportunities is in the credit markets. Last week saw a dramatic dash for cash and all assets, including bonds, sold off aggressively. Credit spreads (the yield on a bond over Treasury bonds) widened out significantly. As of this writing, high yield bond spreads are over 1,000 basis points (bps). Four weeks ago, that spread was 400 bps. This move is a 2.5 standard deviation event, meaning that this magnitude of spread widening is relatively rare. The future prospective returns in high yield are as attractive as they have been in many years. We have added a high yield position across balanced portfolios, but we are not at a full position just yet. Timing is always difficult and we just want to be patient with capital. As things develop over the next few weeks, we do believe most risk assets will still present attractive opportunities. We have done other trades to take advantage of opportunities and we do expect more to come. We are spending an extensive amount of time researching every asset class as we try to determine where the best risk-adjusted returns are present.
What we are watching and thinking about going forward
The virus is still an issue:
While the markets are rallying over the last couple of days, we want to be cognizant of the fact that the virus is still a big issue. While China seems to be back to work and Italy may be turning a corner in terms of new cases, the U.S. has most likely not seen our peak yet. Testing is ramping up which is good but we need to see more. Most experts estimate we need at least 100K tests per day before we can come close to seeing a peak. The US is currently testing about 65k per day as of this writing and which is heading in the right direction. The Federal Reserve and Government stimulus will go a long way to help dampen potential financial distress among individuals and corporations. Despite positive steps by the government to provide aid, we cannot lose sight of the fact that the public health issue at hand cannot be solved by fiscal and monetary support.
Watching for a bottom in markets:
At Shepherd Financial Partners, we believe that it is imperative to have a process for navigating market corrections and bear markets. Our investment committee has developed a playbook studying signs that we are close to putting a bottom in. Today, most of these indicators are telling us that stocks are near a bottom but history tells us this takes time. Lows normally are retested during periods like this. We can see sharp rallies (as we have witnessed in recent days), but when the primary cause of the selloff (the virus) is not yet resolved, it can be difficult to confirm a bottoming in markets. This is why we believe in being prudent and patient. The investment team does feel we are close to a bottom, but there still might be pockets of increased volatility ahead of us until we all can feel comfortable the virus’s impact on markets is being minimized.
We hope you find this writing helpful. We strive to be in front of you more and more as we work our way through this. If you are worried about what’s happening today please reach out to your advisor and we can discuss the current situation and answer any questions you have.
Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly. Government bonds and Treasury bills are guaranteed by the US government as to the timely payment of principal and interest and, if held to maturity, offer a fixed rate of return and fixed principal value. This information is not intended to be a substitute for specific individualized tax advice. We suggest that you discuss your specific tax issues with a qualified tax advisor. All investing involves risk including loss of principal. No strategy assures success or protects against loss. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.
Investment advice offered through Shepherd Financial Partners, LLC, a registered investment advisor. Registration as an investment advisor does not imply any level of skill or training.
Securities offered through LPL Financial, member FINRA/SIPC. Shepherd Financial Partners and LPL Financial are separate entities.
Additional information, including management fees and expenses, is provided on Shepherd Financial Partners, LLC’s Form ADV Part 2, which is available by request.