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Surprise! No Selloff in 2013

Winter 2014

The unusually strong performance of US stocks in 2013 was a welcome surprise for investors who are following a simple buy-and-hold strategy and a source of exasperation for many active portfolio managers and investment professionals.

It was the best year for the S&P 500 Index since 1997, with a total return in excess of 32%. To some experts, it wasn’t supposed to look like this. A Barron’s cover story appearing in November 2012 warned investors to “get ready for the recession of 2013.” The title of a Time article on the outlook for financial markets that same month shouted, “Why Stocks Are Dead” in oversize type. A prominent economic forecaster who predicted the downturn in 2008 suggested that four elements—stagnating US economic growth, the European debt crisis, a slump in emerging markets, and military conflict in the Middle East—could combine and lead to a  “superstorm.”

Another prognosticator—and longtime Forbes columnist—ticked off a long list of worries, including a new wave of housing foreclosures, persistent government deficits, weak consumer spending, high unemployment, and unsustainable corporate profit margins.

Detroit’s bankruptcy filing in July—the largest American city to do so—and the acrimonious debate over public finances in many cities and states suggested to some that a tectonic shift in municipal finance was underway with worrisome consequences. One prominent Wall Street researcher observed that “the aftershocks of the largest municipal bankruptcy in US history will be staggering, and Detroit will set important precedents.”

Individual and professional investors alike braced themselves throughout the year for a sharp selloff that never materialized. Month after month, a Greek chorus of financial journalists recycled the same arguments we have heard regularly for the past several years: Economic growth is well below average, stocks are expensive relative to earnings, corporate profit margins are historically high and can only come down, earnings growth is too weak, asset prices have been artificially inflated by an expansive monetary policy, and so on.

With so many economic hobgoblins to frighten them, many investors found it easy to dismiss more positive developments as unsustainable or irrelevant. Auto sales, for example, have been surprisingly strong in recent years, but investors could find plausible reasons for caution in 2013. A New York Times financial reporter observed, “After steady increases for decades, Americans are driving less. … Walkable cities are growing faster than suburbs. And wherever people happen to move, they are buying smaller, more fuel-efficient cars. … All this means that autos—one of the biggest industries in the United States—will not soon regain the explosive growth of the early 2000s.”

Some Americans are indeed buying more fuel-efficient cars; electric-only Tesla luxury sedans are popping up in driveways in wealthy neighborhoods across the country. But many other Americans are eagerly signing contracts for powerful full-size pickup trucks; light-duty truck sales were up roughly 20% through November, and the Ford F-150 continues to be the best-selling vehicle in America by a substantial margin. Last year turned out to be a rewarding one for shareholders of most auto manufacturers and suppliers as well.

Selected Automotive Stocks: 1-Year Total Return as of December 31, 2013

Tesla Motors (TSLA) 344.14%
Visteon (VC) 74.32%
Johnson Controls (JCI) 69.84%
Magna Intl (MGA) 66.61%
General Motors (GM) 41.76%
Paccar (PCAR) 34.64%
Cummins (CMI) 32.18%
Ford Motor (F) 22.24%

Source: Morningstar (www.morningstar.com), accessed January 2, 2014

What can investors learn from last year’s market behavior? Most of us accept the idea that predicting the future is difficult. And predicting how other investors will respond to unpredictable events is harder still. Results from this past year tell us we should be skeptical of our ability—or anyone else’s—to outperform a simple low-cost buy-and-hold strategy.

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