Mark Daly: Stocks' outlook positive but keep bonds, too, analyst says

Managing director-investment officer, Daly & Vachek Investment Consulting Group of Wells Fargo AdvisorsJuly 16, 2014 

Mark Daly

Mark Daly

Our investment consulting practice recently hosted an educational event for clients and professionals from the tax and estate disciplines. We chose Boise State University's Stueckle Sky Center. This venue provides a spectacular view of the Boise front, especially in the spring when the Foothills display their vibrant bright green hue.

The turnout was larger than expected, and the event was generally well attended. We learned that attendees still have a desire for education when it comes to making informed investment decisions. They have no desire for sales presentations or product promotions. And when the co-host is Vanguard, people sit up and take notice.

We were honored that Vanguard would provide Brian Scott, CFA, senior analyst and adviser to several Vanguard investment committees, as our guest speaker. Vanguard believes interest rates could stay low for the next five to 10 years, while the economy could deliver average to below-average growth. While not robust, this modest growth rate compares favorably to other countries and economies around the world. Median inflation could run about 2.5 percent as it has since 2000. This compares with 3.0 percent median inflation from 1950-2013.

Despite continued low interest rates, bonds should absolutely remain an essential part of a balanced portfolio. Scott advised caution when seeking "bond substitutes" such as utilities, high-yield bonds and real estate investment trusts, or REITs. While currently popular and appropriate for some investors, these investments can react harshly to rising interest rates. Seeking higher-income investments during periods of low interest rates is often a mistake. The higher the return over the "risk free" rate of return, the greater chance investors will lose money when rates increase.

Scott advised investing in high-quality corporate, government and municipal bonds. These bonds act like a shock absorber in the portfolio, while providing more income than cash. The ballast provided by short-duration bonds tends to dampen price volatility. These bonds can also be sold more easily for cash, avoiding the need to sell from one's stock portfolio during inevitable market corrections.

Scott reminded attendees that valuation is the largest contributor to stock-price movement yet the most difficult to predict, as it is often a function of investor psychology. The price-multiple that investors are willing to pay for sales and profits varies widely, and the accompanying volatility can be unsettling.

Dividend yield and profit growth are more tangible, stable and predictable compared with valuation. We can accurately compare valuation with long-term averages and determine whether stocks are "expensive," "cheap" or "about right."

In summary, Scott outlined why current valuations remain reasonable, while maintaining a positive outlook for stocks. Once again the audience was reminded not to put all of their eggs in one basket, and that the basic essentials of asset allocation and disciplined rebalancing still apply.

We look forward to hosting similar educational events, complete with high-quality informative speakers, in the future.

Mark Daly: 333-1433

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