Morgan Stanley The Trend is your Friend October 2016 The Harbor Oak Group At Morgan Stanley 6101 Carnegie Blvd Charlotte, NC 28209 500 College St. Ashville, NC 28001 704-571-3200
The views expressed herein are those of the author and do not necessarily reflect the view of Morgan Stanley or its affiliates. Printed 10/15/2016 I m sure everyone s mother at some point said, If all of your friends jumped off a bridge would you do it as well? We assumed this was a rhetorical question, but in reality the answer should have been - Well Mom, that really depends on the risk of jumping off the bridge relative to staying on the bridge. But of course statistics and risk calculation was likely not at the top of most children s minds when attempting to persuade Mom. Unfortunately, even with a statistical background it s challenging to calculate risk as it is human nature to use emotion rather than logic. This is especially true when it comes to investing. From 1996 to 2015, the average investor s return was only 2.1% compared to 6.18% for stocks, 5.34% for bonds and 2.20% for inflation. (See Dalbar study below.) * Over the last several years we ve seen a huge influx of index products that just track the broad market. Jack Bogle, the founder of Vanguard, has continued to preach, You can t beat the market so invest in low cost index funds. Well, is that really the answer? I certainly believe that index investing has its place, but I would argue that this movement has made it even harder for investors to understand the amount of risk in the stock market, especially as risk is constantly changing. It s very similar to driving on a curving mountain road where the risk of running off the road during a curve is far greater than on a straightaway. Same goes for the stock market - I don t care if you are investing in individual stocks, mutual funds, index funds, ETFs, etc. There is a time to have your foot on the gas and a time to have it on the brake. The problem with investing in the S&P 500 is that your foot is on the gas at all times and after you run off the road a few times you finally just stop the car and get out and start walking. (i.e. sitting in cash) This is very evident if you look at mutual fund flows over the last 20 years. Investors get in and out of the market at the absolute wrong time. So what s the answer, diversification? Every investment firm has been preaching diversification and asset allocation - basically just spreading your investments around into different asset classes so you don t have all your eggs in one basket. That s great in theory, but Wall Street uses fancy words like non-correlated investments assuming some of your investment will zig while the others zag. The problem is that diversification doesn t always work when you need it the most because markets are driven by investors and investors are driven by emotion and emotions are often not logical. For example, when panic entered the markets in 2008, investors sold most everything without discriminating between stocks, bonds, commodities, real estate, etc. Therefore, all these said non-correlated investments became very much correlated and the only place to hide was US Treasuries and cash. Sounds crazy eight years later, but it s just human nature to sell and ask questions later during extreme volatility. We believe this has only intensified with the index movement as investment correlation has dramatically increased. Why? Because it s a lot easier to throw in the towel on the Vanguard S&P 500 ETF then say Duke Energy or Coca Cola.
On that note, perhaps the answer is to just buy good quality stocks and hold them forever? Of course that doesn t always work as a great company isn t always a great stock. Sure, fundamental analysis is extremely important and in a perfect world the market would price every investment based on their fundamental qualities. But, we know the world is not perfect and the only reason stocks go up or down is there s either more buyers than sellers or more sellers than buyers. Economics 101 - supply and demand. The point is that the market does what it wants to do. It s much more important to understand what the market is telling us, rather than trying to predict the direction. Famous investor Marty Schwartz once said The market does not know if you are long or short and couldn t care less. The market is just reacting to supply and demand and if you are cheering it one way, there is always somebody else cheering it just as hard for it to go the other way. We believe the best way to manage risk is to own good quality companies that are in an upward trend. But more importantly have a predetermined plan for if or when they start to go the other way. A positive trend can often last much longer than expected but unfortunately that is also the case on the way down. Whether you re a long term investor or a day trader it doesn t matter, it s paramount to always define your risk. In our mind the only true way of defining your risk is by having a defined exit strategy. At the end of the day no one knows where the market will be in 6 months or 3 years; not Jim Cramer, not Warren Buffet, and certainly not us. The only things we can do are focus on the supply and demand, don t be a hero, don t have an ego, and remember the trend is your friend.
The importance of knowing the trend. (S&P 500 index)
Source: Thomas Reuters 10/04/2016 Mike Anderson Gray Howard Mike Hicks Vice President Associate Vice President Financial Advisor Portfolio Manager Senior Portfolio Manager Financial Planning Specialist Financial Advisor Financial Advisor Mike.Hicks@ms.com Chartered Retirement Grady.K.Howard@ms.com Planning Counselor Micheal.b.Anderson@ms.com *Source: Morgan Stanley Wealth Management GIC; Bloomberg; Dalbar. 09/09/2016 **Source: Investment Company Institute, Haver Analytics, Bloomberg, Morgan Stanley Wealth Management GIC DISCLAIMERS. The companies identified within are shown for illustrative purposes only and should not be deemed a recommendation to purchase or sell the companies mentioned. Technical analysis is the study of past price and volume trends of a security in an attempt to predict the security's future price and volume trends. Its limitations include but are not limited to: the lack of fundamental analysis of a security's financial condition, lack of analysis of macro-economic trend forecasts, the bias of the technician's view and the possibility that past participants were not entirely rational in their past purchases or sales of the security being analyzed. Investors using technical analysis should consider these limitations prior to making an investment decision. This material does not provide individually tailored investment advice. It has been prepared without regard to the individual financial circumstances and objectives of persons who receive it. The strategies and/or investments discussed in this material may not be suitable for all investors. Morgan Stanley Wealth Management recommends that investors independently evaluate particular investments and strategies, and encourages investors to seek the advice of a Financial Advisor. The appropriateness of a particular investment or strategy will depend on an investor s individual circumstances and objectives. The individuals mentioned as the Portfolio Management Team are Financial Advisors with Morgan Stanley participating in the Morgan Stanley Portfolio Management program. The Portfolio Management program is an investment advisory program in which the client s Financial Advisor invests the client s assets on a discretionary basis in a range of securities. The Portfolio Management program is described in the applicable Morgan Stanley ADV Part 2, available at www.morgan stanley.com/adv or from your Financial Advisor.
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