How Hard to Swing

I’ve always enjoyed playing golf with people of varying ages. Older golfers typically have less flexibility so they can’t swing as hard. But, they also have much more experience. Wisdom that serves up the importance of staying in the fairway, on the short grass, out of trouble.

By contrast, younger golfers generally want to “grip it and rip it.” Drive the ball as far as they can by swinging out of their shoes. They have greater flexibility but less experience. They play a power game. Everything is to be crushed, most especially the ball and the accelerator on the golf cart.

I often find myself torn between which game I want to play. When I see the older golfer constantly in the fairway and out of trouble, I think that’s the sensible plan.

I often find myself torn between which game I want to play.

But, then I see the younger golfer crush his last 4 drives right now Broadway (the fairway). They’re 100 yards further out and he’s in prime position. Now, I feel foolish for easing up, having taken the safer approach.

Recency bias weighs heavy in our minds.

Many investors I talk with are grappling with this very question right now. The power game has been working recently. The S&P 500 has been up at least 18% a year in 4 out of the last 5 years. And, that one down year—2022—feels like a distant memory.

Many investors I talk with are grappling with this very question right now.

You see this bullishness wrapped up in today’s prices. We’re not looking at the actual price of the market, but how much value you’re getting for your money.

I wrote about “the real price” of the markets over the summer. Give it a read if you need a refresher.

Here’s a chart from J.P. Morgan that shows the current valuations on the S&P 500 versus their historical norms. It doesn’t matter whether you’re looking at the price of the market relative to earnings, to sales, to cash flow, or even to bonds. All six metrics are elevated.

Morgan that shows the current valuations on the S&P 500 versus their historical norms.

A couple things to note: this is only looking at the S&P 500, which is a broad index that encapsulates large U.S. companies. So, this doesn’t speak to valuations of all companies around the globe. Second, valuation doesn’t really matter in the short-term. Markets can run far away from their long-term averages in any 2-3 year timeframe. But, over the long-term, valuations are pretty much the thing that matters most. So, you have to ask yourself…

“Am I making investments for the next 16 days or the next 16 years?”

There is a difference between a trader and a long-term investor. Traders may not need to be focused on valuations. Investors probably should.

There is a difference between a trader and a long-term investor.

So, how should you think about your investments in this context. Remember, it’s a fool’s errand to try and time markets. Stretched valuations are NOT a reason to completely abandon your investment strategy. Valuations may continue to stay stretched for some time.

First things first. Reevaluate your goals. See how much return you need to achieve those goals.

Here’s a great chart from Vanguard that illustrates the risk/reward depending on how much stock exposure you have.

Here’s a great chart from Vanguard that illustrates the risk/reward depending on how much stock exposure you have.

Don’t take the long-term averages as gospel. The next 10-20 years may look a bit different, especially since we’re starting with elevated valuations.

Better to view this as a guide to your thinking around how much risk you’re willing to absorb for the return you hope to achieve. If the downside is too great, look at dialing back your risk.

Look for opportunities in companies, industries and countries where valuations are more reasonable—better in line with their long-term growth rates.

Look for opportunities in companies, industries and countries where valuations are more reasonable—better in line with their long-term growth rates.

Try to mentally remove F.O.M.O. from your approach. This is where focusing on specific personal goals can be helpful. If achieving those goals is what you consider real success, then you know how to better channel your thinking and your investments.

Back to the golfers at the top. Right now, the grip it-and-rip it crowd seems to be the one to follow. The markets have ripped higher over the past two years with little volatility along the way. The S&P 500 is outdriving most everything else around the world and with only momentary waywardness.

It seems foolish to shift investments anyplace else. It seems silly to take a more cautious approach.

It seems foolish to shift investments anyplace else.

But, if your goal is to retire in the next year or two, send your daughter off to college, buy a house or a business, you need to recognize you’re on the 18 th hole. The doors of the clubhouse are wide open. You’re about to reach your goal. The last thing you want to hear is the smack of your ball heading into the water or off the tree as it sails far out of bounds.

The legendary investor Ben Graham once said,

“The essence of investment management is the management of risks, not the management of returns.”

“The essence of investment management is the management of risks, not the management of returns.

Let us know if you need help applying that logic to your portfolio.

This material is provided as a courtesy and for educational purposes only. Please consult your investment professional, legal or tax advisor for specific information pertaining to your situation.

All views/opinions expressed in this newsletter are solely those of the author and do not reflect the views/opinions held by Advisory Services Network, LLC.