Is This Worse Than 2008?

Mark Meredith, CFP®

We are now 164 days into a market decline with the S&P 500 Index experiencing a drop of 24.5% thus far. This is the longest decline we have seen since May 2015 – February 2016, which lasted 267 days but only resulted in a 15.2% decline.

This market drop is very different, as is the case with all market drops. Things that have never happened before tend to happen all the time. To add more pain to this current pullback, bonds have not really helped as they have in prior declines and inflation is making the real impact of the drop significantly worse.

For those who were investing in the 2008 market crash (full disclosure, I was in college), you might think I am crazy for even asking the question if this current pullback is worse than that. Looking at the numbers below I will make my case that it is worse for certain investors, but I would agree the sheer terror of the Great Financial Crisis has yet to be experienced in this downturn. We were very close to the entire financial system collapsing in 2008, and saw firms that were once American icons filing for bankruptcy. Let’s hope it doesn’t come to that.

The Data

Here we will look at 5 different portfolios ranging from 20% equity to 100% equity, how they performed in 2008, and how they have performed thus far in 2022.

These are simple 3 fund portfolios, championed by the late John Bogle. The bond portion of each portfolio will consist of the Vanguard Total Bond Market Index Fund (VBTLX), with the equity portion split 60% into the Vanguard Total US Stock Market (VTSAX), and 40% into the Vanguard Total International Stock Index (VGTSX).

One can see that both the 40-60 and 20-80 portfolios have experienced worse nominal and inflation-adjusted returns this year than the full year of 2008. Of course 2022 is not over yet. Things could get better, or worse. Bonds performed beautifully in 2008, earning a positive 5.15% return for the year. The 2022 year to date return on the Vanguard Total Bond Index is -11.95%. For reference, the worst annual return ever seen from that fund was in 1994 at -2.66%.

This is the first time many investors have been tested with high inflation, as we have only seen two calendar years since 1982 with CPI above 5% (1990 and 2021). The 2008 crisis was a deflationary event. While CPI was slightly positive for the year, December of 2008 was a record drop for the CPI.

Should we give up hope of any recovery? No. With the benefit of hindsight we can see how markets performed shortly after the 2008 crash. Here are the 2009 returns:

Things only continued to get better for investors that held on going forward, although there was constant fear of a “double dip recession” at the time.

A remarkable data point recently shared by Dimensional Fund Advisors (shown below) illustrates how resilient US equities have been after experiencing market declines. Using data from the Fama/French Total US Market Research Index, they are able to show the average cumulative 1, 3, and 5 year gain after market declines of 10%, 20%, and 30%.

Knowing this data, it may be best to stay the course on equities.

Alternative Investments: Time to Shine

As US equities ripped to miraculous heights the last decade, anyone allocating money to “alternative investments” generally regretted it. Below we will look at the compound annual growth rate (CAGR) of two alternative asset class mutual funds that both existed most of the last decade, the PIMCO Commodity Real Return Fund (PCRIX) and the AQR Managed Futures Strategy (AQMNX). I’ve included the Vanguard Total US Stock Market Fund for reference.

This covers the period of 02/2010 – 12/2019 (02/2010 was selected as the start date as that was the first full month of live results for AQMNX).

Those are quite painful returns from the two alternative investments listed. $10,000 invested into either of them would have left one very far behind of allocating solely to US stocks through the Vanguard index fund. Now let’s look at the year to date returns of the same three funds:

Now we see quite the opposite over this short window of time. Alternatives have been an ugly asset class to invest in for a long time, and those who stayed committed are starting to see the payoff.

Alternative investments could be viewed a type of portfolio insurance against equity and/or bond risk, or an additional layer of diversification that you cannot get from stocks or bonds. The idea is generally to produce a positive long-term real return without having any correlation to equity or bond markets. A meaningful allocation to alternatives could help cut down the extreme outcomes (both good and bad) into a more narrow distribution.

Before you run out and put all of your money in alternative investments because of great recent returns, you might want to consider the best time to buy insurance is when the perceived risks are low and insurance is cheap. Flood insurance should be purchased during a drought, not during a Spring with record rainfall.

A problem I have seen with alternative investments in my career is that one has to allocate a meaningful portion of their portfolio to them to see any significant difference in outcome, such as 15% – 20% of the portfolio. At my prior firm we had a model portfolio with 3% in alternative investments. That might give some people the perception of additional diversification, but it likely makes no difference in outcome.

If you can imagine building a portfolio  at the start of 2020 and evaluating alternative investment funds like the ones listed above, how comfortable would you have been placing 20% of your portfolio in them? Most investors would gag entering that trade order. There is a sensible basis to some alternative investments, and they can benefit investors at times but they are only appropriate if you are going to stay the course (as is the case with all other investment assets).

The last 10 years of returns is always out to get you, and should not be the basis of investment decisions. $1 million invested in the Vanguard 500 Index on January 1, 2000 would have grown to just $1,056,487 by the end of 2011. Adjusting that for inflation, you lost 21% over those 12 years. Of course we all know what happened next, the 500 index took off like a rocket for years to come.

So…What Do You Do?

You should not alter your investment strategy because of market conditions or emotional triggers. Asset price movements can give us opportunities to rebalance, tax-loss/gain harvest, and time opportune Roth IRA conversions but the market shouldn’t dictate when you become an “aggressive” investor and when you become a “conservative” investor.

Source for investment return data:

Disclosure: Past performance does not predict future results. This article is for informational purposes only and should not be considered a recommendation. Information contained in this article is obtained from third party resources that Meredith Wealth Planning deems to be reliable. Any reference to a market index is included for illustrative purposes only, as it is not possible to directly invest in an index. Indices are unmanaged, hypothetical vehicles that serve as market indicators and do not account for the deduction of management fees or transaction costs generally associated with investable products, which otherwise have the effect of reducing the performance of an actual investment portfolio.

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