2020 has been a long and volatile year thus far and we’re only approaching the halfway mark. Most of the country has been living under stay-at-home orders, with many of the usual forms of entertainment — restaurants, professional sports, concerts, bars, casinos and vacations, among others — all suspended for the past couple of months. What have people been doing to get their entertainment fix (other than the 64 million households that streamed Tiger King on Netflix) and maybe even quench their gambling desire?
Anecdotally, I’ve heard of a growing number of retail investors turning to the stock market to invest (perhaps day trade), similar to the dot-com boom in the late 1990s. As one measure of the growth in new investors, the number of Robinhood users has increased dramatically to more than 13 million as of March 2020. This is up from 10 million in December 2019 and only 1 million back in 2016. Robinhood is an online brokerage company that, according to its website, strives to “make investing in financial markets more affordable, more intuitive, and more fun, no matter how much experience you have (or don’t have).” This growth in retail investing is great if it’s accompanied by an investment strategy and appropriate time horizon. On the other hand, trying to make a quick wager in the market can be very risky, especially during these volatile times.
There has been tremendous uncertainty in the market as institutional investors weigh which force will prevail. Will it be the global pandemic and recession fears driving the market lower, or support from the Federal Reserve and governments driving it higher? As a result of these major forces and uncertainties, we’ve witnessed both the bond and equity markets swing dramatically. Bankrupt companies’ stock prices have skyrocketed (even with the most likely scenario making their current shares worthless). Simultaneously, investment-grade companies (those with the highest credit rating and lowest perceived credit risk) have seen their bond prices fall about 30% (nearly as much as their stock prices) in some cases and then rebound by the same amount. This has created great long-term investment opportunities and apparently even day-trading opportunities.
In this week’s chart, I categorized the S&P 500 Index into two buckets — investment grade and high yield, as measured by Standard & Poor’s. The goal was to see if there's a way to invest in less risky names and achieve higher returns during these volatile conditions. I reviewed the year-to-date period to see if I could identify any potential investing advantage. As depicted in the chart, it appears that during the dramatic market sell-off, a basket of S&P 500 Index stocks with investment-grade ratings outperformed the high-yield stocks in the same index by about 1,000 basis points (bps). Moreover, during the subsequent market rally, these higher-rated companies gave back some of that excess return, but were able to hold on to nearly 320 bps of alpha. This analysis only looks at one short and volatile period in time, but indicates an up-in-quality strategy for a long-term investor could yield solid returns and help protect against drawdowns during sell-offs.
Key Takeaway
I think that the rise of new investors entering the stock market is beneficial for both investors and the market. It’s important to construct an appropriate investment strategy, allocation and time horizon to meet objectives. This will allow an investor to stay the course and rebalance during major market moves. If the investing goal is purely for entertainment and the stock market is your casino during the COVID-19 pandemic, treat it as such by investing only the amount of money you’re willing to lose. On the other hand, the adage that it’s more about the time in the market than trying to time the market is still wise advice. Certainly, there are no guarantees when it comes to investing. With that said, investing in the S&P 500 Index or even only the highest-rated companies in that index could result in long-term success and perhaps even excess returns.
The material provided here is for informational use only. The views expressed are those of the author, and do not necessarily reflect the views of Penn Mutual Asset Management.
This material is for informational use only. The views expressed are those of the author, and do not necessarily reflect the views of Penn Mutual Asset Management. This material is not intended to be relied upon as a forecast, research or investment advice, and it is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy.
Opinions and statements of financial market trends that are based on current market conditions constitute judgment of the author and are subject to change without notice. The information and opinions contained in this material are derived from sources deemed to be reliable but should not be assumed to be accurate or complete. Statements that reflect projections or expectations of future financial or economic performance of the markets may be considered forward-looking statements. Actual results may differ significantly. Any forecasts contained in this material are based on various estimates and assumptions, and there can be no assurance that such estimates or assumptions will prove accurate.
Investing involves risk, including possible loss of principal. Past performance is no guarantee of future results. All information referenced in preparation of this material has been obtained from sources believed to be reliable, but accuracy and completeness are not guaranteed. There is no representation or warranty as to the accuracy of the information and Penn Mutual Asset Management shall have no liability for decisions based upon such information.
High-Yield bonds are subject to greater fluctuations in value and risk of loss of income and principal. Investing in higher yielding, lower rated corporate bonds have a greater risk of price fluctuations and loss of principal and income than U.S. Treasury bonds and bills. Government securities offer a higher degree of safety and are guaranteed as to the timely payment of principal and interest if held to maturity.
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