What a difference 5 years make: Gaining perspective makes us humbler and wiser

(September 22, 2003) The NASDAQ index’s return between September 2002 and June 2003: 41.9%. A pretty big number, right? The S&P/TSX index turned in 13.3% and the S&P 500 index, 20.9% (all data in local currency) — equally impressive. It’s enough to push certain analysts into thinking that this rally has overshot and a correction is in the cards.

But let’s put these numbers in perspective and roll back the tape five years to September 1998.

Remember 1998? The Russian currency crisis. A tough summer indeed. Between September 1997 and August 1998, the S&P/TSX, S&P 500 and NASDAQ had returned -20.3%, 7.3% and 0.5% respectively. Not a great year, but it was riding on the coattails of 1997. The September 1996 to September 1997 numbers were 33.1%, 37.8%, and 37.4% respectively. You just couldn’t lose being in markets like those, so expectations were set high.

Then, 1999: Another banner year — returns of 23.9%, 26.1% and 62.1% (yes, 62.1%). Those techs were going to the moon, baby.

2000: Bye-bye, tech dream. Even so, this didn’t prevent the indices from turning in 49.2%, 12.0% and 33.7% between September 1999 and August 2000. That’s how powerful the tech rally had been before crashing.

2001: Bad scene with -34.1%, -27.5% and -59.2%. What goes up (and runs out of rocket fuel) must come down.

2002: More of the same with -9.6%, -21.7% and -21.8%. (For 2002-2003 see first paragraph.)

So what’s my point? Even over a short five-year time period, markets can go through ups and downs practically on a yearly basis. It doesn’t help that this time, we’ve been going through one of the worst market downturns ever (after probably the strongest, longest bull market ever), but the point is the same: The market cycle is alive and well — and should remain so for your lifetime and mine.

Let me tell you what I think has changed over the past five years.

I sincerely think no one with an IQ approximating Fahrenheit room temperature is banking on a 1990s-type rally again. We’ve collectively lost something in the markets, but we’ve also gained precious wisdom and humility — two scarce and extremely valuable commodities.

We’ve learned that diversification and proper asset allocation work — as evidenced by the recent role played by fixed-income and money market instruments, the saviours of many portfolios. We’ve learned that the expectations generated in the late 1990s by institutional professionals, advisors and individual investors alike are unsustainable. We’ve had to roll back the numbers. And we’ll retire later, pension funds will have to be helped with their actuarial deficits, and so on. For many, it’s a single-digit world out there — even in equities.

We’ve noted that the relationship between asset classes themselves has possibly changed: Equities do not seem to dominate fixed-income instruments as they have in the past. Or do they? The jury’s still out, but bonds may be closer to stocks on a return-risk basis than ever before.

Also, globalization and better information have led to higher correlations between asset classes, meaning lower portfolio diversification, just when it counts most — in market downturns. If all traditional asset classes have higher correlations now, what asset class can bring back lower portfolio correlations? Potential answer: alternative investments and absolute return instruments. Lots of interest and growth there.

But in the end, one thing has not changed: the investors’ need for advisors to be on top of their game. This means that you, the advisor, must remain current on the changes we’ve all experienced, in the last five years, and forever in the future. Happy 5th, Advisor’s Edge.

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Pierre Saint-Laurent, M.Sc., CFA, is the president of AssetCounsel Inc. He can be reached at psl@assetcounsel.com.

09/22/03