Fourth Quarter 2015 Letter to Clients

Last year saw the first true bout of panic selling in the stock market since the U.S. default crisis of 2011, and 2016 has begun on much the same note. 

While market downturns are never causes for celebration, it has nevertheless been striking to us in our recent discussions with clients, prospects, friends and family the universal pessimism that seems to pervade all of these conversations. No one, it seems, has much faith in the economy – domestically or globally. And that, by extension, breeds a lack of faith in the stock market.

Ironically, from an investment perspective, all of this pessimism is actually some cause for optimism. One of the oldest and truest adages in investing is the phrase, “the market climbs a wall of worry.” It is a reference to the fact that stocks, historically, have demonstrated an uncanny ability to keep climbing even when – especially when – no one believes they will, or should. In fact, it is the periods of unbridled optimism – such as we saw in the dot-com mania of the late 1990s – that typically lead to prolonged downturns in the market once the mania subsides.

Nonetheless, pessimism tends to spread like a virus, and it often leads investors to make short-sighted, fear-based decisions with their money. One of the more discouraging statistics we have seen recently is the lack of stock market participation by Millennials – twenty-something year olds who came of age during the 2000s. For them, two protracted bear markets spaced just a few years apart has proven to be a scarring experience, so much so that one survey by found that only 26 percent of Americans under 30 own any stocks at all. Even more discouraging, this same survey found that the majority of Millennials view cash as the best long-term investment! ( survey, July 2014).

This, of course, is a complete disconnect from reality. From an investment perspective, stocks are the only hope that young Americans have of amassing the wealth they will need for retirement. An over-concentration in bonds or cash for young investors will virtually guarantee that their investments won’t keep pace with the ever-rising cost of living over time.

So what are the root causes of this pessimism that investors of all ages seem to have about our economic prospects in general, and stock investing in particular? In our experience, there are three main culprits:

1. Lack of Perspective. There is much to worry about in the world today. Indeed there always has been and always will be. The media does an excellent job of parading those things to worry about in front of us all day, every day. No wonder it is hard to feel optimistic about the future.

Consider, though, what an investor in 1975 had to worry about. The U.S. economy was in a deep recession, the President had just been forced from office in disgrace, inflation was soaring, the Arab world had turned off our oil supply, and the S&P had declined 50% in twenty-four months. Add to this the fact that one in every two people in the world lived in extreme poverty and the case for optimism in the future was nearly impossible to make.

It is therefore instructive to look at ten-year intervals of how the world fared over the next forty years from that point forward:


World Population

U.S. Population

Ratio of People in Extreme Poverty

U.S. Real GDP

S&P 500 Year-End Close

S&P 500 Earnings

S&P 500 Dividend


4.10 billion

216 million

1 in 2

$5.49 trillion





4.85 billion

238 million

1 in 2

$7.71 trillion





5.70 billion

266 million

1 in 2

$10.28 trillion





6.50 billion

296 million

1 in 3

$14.37 trillion





7.29 billion

322 million

1 in 10

$16.39 trillion




Clearly, despite the many compelling reasons an investor in 1975 would have had to avoid stock investing, all of them would have been wrong. In the forty years ending in 2015, U.S. real GDP tripled and the S&P 500 index grew more than ten-fold. Even more compelling, while the world population nearly doubled, the ratio of people in extreme poverty fell from one in two to one in ten!

What were the underlying reasons for this incredible growth of prosperity around the world since 1975? There were two: the collapse of communism, which freed billions of people around the globe from economic tyranny, and the relentless pace of innovation, which has improved the standard of living exponentially. (Today, a child’s smartphone has more computing power than a state-of-the-art mainframe computer in 1975. Who could have conceived of that?)

Today the pace of innovation moves at the speed of light, and billions of new middle-income consumers around the world stand at the ready to snap up the new products that are constantly hitting the market. So while the news cycle continues to convince investors that doom and gloom are the order of the day, the economic future is, in fact, very bright.

2. Believing the stock market is a rigged casino game: In the big picture, the stock market is a simple concept: It’s a place where companies come to attract investment capital, and a place where investors go to make choices about which of those companies they will favor with their capital.

How those choices are made is up to the investor (or their investment advisors). And it is the choices investors make, and the behavior they engage in along the way – and not the market itself – that will ultimately determine the experience an investor has in the stock market. 

Many people don’t see it that way, however. They point to high-profile frauds, deceptions and manipulations that have occurred in the public markets in the past two decades as proof that the stock market is not a fair game for the average investor. They think it is a game that is rigged against them.

Indeed, there is no glossing over the fact that such chicanery has occurred in the capital markets. In the early 2000s, such notable companies as Enron, WorldCom and Tyco were found to have engaged in massive accounting frauds that artificially inflated the value of their stocks. Investors who were concentrated in the stocks of these companies lost everything. And such frauds can even have a systemic effect on the global economy – as the sub-prime mortgage crisis did in 2008-09.

So there’s no denying that things occur in the capital markets that can lead to temporary “dislocations” – instances where stock prices don’t accurately reflect the true underlying value of the investment. But when those frauds are inevitably exposed, the market efficiently and ruthlessly factors the new information into share prices. Consider how fast the market repriced the value of financial services companies that were loaded up on those subprime investments in the fall of 2008. Some, such as Lehman Brothers, were repriced into oblivion.

Once the smoke cleared and the market recovered, well-diversified investors who didn’t concentrate their assets in the stocks of companies that were caught up in these scandals, and who didn’t panic when the market reacted to them, were no worse for the experience, at least financially. But that wasn’t the experience of the average American investor who was concentrated in high-yielding financial stocks and went screaming for the exits when it all collapsed in the fall of 2008. Those unfortunate folks lost most or all of their investments. 

So while frauds and deceptions do occur, and sometimes those events have system-wide impacts, investors who aren’t over-concentrated in the stocks of the affected companies can stand back and let the market sort itself out over time. Eventually the market will clear and the underlying driver of long-term stock returns – the pace of innovation – will re-assert itself. 

The reality is that the stock market itself is as efficient and effective as it has ever been in determining the fair prices of securities. It is up to investors to adopt a sound investment strategy – and adhere to it – if they are going to enjoy the higher returns that stocks have historically provided without needlessly exposing themselves to unnecessary risk along the way.

3. Not understanding what “long-term” really means. When it comes to investing, the phrase “long term” gets used so often (including by us) that it sometimes seems clichéd.

It is important, though, to consider what a long-term holding period in the stock market really is. While there is no universally-agreed upon definition of the term, a long-term holding period for investment planning purposes is certainly more than ten years – and, realistically, twenty years or more.

In today’s nano-second society, many people find the concept of a twenty-year holding period unfathomable. And yet that is what investors historically need to be prepared for in order to allow volatile market cycles to run their course.

Consider the twenty-year period ending in 2015. During that span, from 1995 to 2015, we experienced the Asian currency crisis (1997), the dot-com collapse (2000-01), 9/11 (2001), the Great Recession (2008-09), the U.S. default crisis (2011), and numerous other white-knuckle events along the way. Not once but twice did we see a 50% or greater decline in the S&P 500 index during that time period. And yet the 20-year annualized return for the S&P 500 ending 12/31/15 was 9.45% -- very close to its long-term historical average of 10%.

Of course, most investors have a mixed bag of needs – they need to keep their money growing and yet preserve capital to some extent. In retirement, investors also need to draw income from their investment portfolio. Few have the luxury of investing a large sum of money in the market and letting it sit untouched for 20 years unless it’s in a 401(k) plan. For these investors, a diversified mix of stocks, bonds, real estate and cash helps smooth the market extremes along the way.

The reality remains, however, that the majority of investors view the stock market through a short-term lens, and make constant “adjustments” to their investments based on short-term conditions. A diversified stock portfolio has never failed to deliver stock-like rates of return if the holding period was long enough. Unfortunately few investors are able to sit still and wait around for those returns to be realized.   

* * * * *

We close with one final thought. The statistics about equity participation by young adults today are truly discouraging. Today’s young adults will live longer than any generation in history, and they may well live thirty years or more in retirement. We will reiterate what we said earlier in this letter: For this group of people, investing in stocks will be critical for their long-term financial wellbeing. If you have young adults in your family – children, grandchildren, etc.  – who lack perspective about this subject, we encourage you to forward this letter to them. Additionally, we will be happy to speak with anyone you think might benefit from our insights on this subject.