No. Diversification Isn't Broken Hello, this is Jeff DeMaso with the FFSA Vanguard Hotline for Thursday, September 30th. There are no changes recommended for any of our Model Portfolios. The economy is growing, but at a slower pace than it was earlier this year as we emerged from the pandemic recession. Moody's and the Atlanta Fed now estimate that the economy grew at a bit better than 3% annual pace in the quarter that ends tonight. That's a decent clip, but it is down from the roughly 6% annual growth rates we saw in the first and second quarters—but as Dan and I often warned, that pace of growth simply wasn't sustainable. The current estimates suggest, though, that even with 3% growth the economy will still be around $360 billion shy of where it likely would've been had COVID not disrupted, well, everything. And COVID, now in the form of the Delta variant, continues to be a disruptor. Supply chains may very well continue to be snarled for the holiday season. The ports of Los Angeles, for example, are extremely backed-up. But, it's not just about what's happening on our shores. Take Vietnam, where a lot of manufacturing and production has migrated in recent years. A Delta variant spike there has led to widespread factory shutdowns. Speaking of shutdowns, the Senate appears likely to pass a spending bill to avoid a shutdown and default this time around. The proposal only funds the government until December 3rd, so, expect more debt-ceiling debates ahead. Stay apprised of the news if you like, but don't panic or hit the "sell" button. As I told you two weeks ago, history shows that a government shutdown has not been a good reason to avoid the stock market. Speaking of keeping up with the news, there's news and then there's click-bait. Headlines, in particular, are meant to engage you and get you to click on an article. That means they need to be dramatic. Consider two headlines on the Wall Street Journal's website this morning: "Stock Market's September Slump Exposes Messy Underside" and "In Bond Market Rout, Investors See Overdue Correction." September slump? Yes, as of Wednesday night, 500 Index (VFIAX) was down 3.5% this month. But, keep in mind, that we still haven't seen the S&P fall 5% or more from a prior high. And a "messy underside"? Please. Any time you look under the hood of the market, some sectors are doing better than others, and it's quite normal for 50% or more of stocks to be trading well below their recent highs. As for a "bond market rout"…Yes, the yield on the 10-Year Treasury bond has increased from 1.30% to around 1.53% this month. However, that translates into a full month decline of just 0.9% for Total Bond Market Index (VBTLX). That's not good, but is it a rout? Not in my book. You might have noticed that both stocks and bonds fell in September. Does that mean diversification is broken? Absolutely not. It doesn't happen often, but it's not unheard of for stocks and bonds to drop in price in the same month. Looking back at the 417 months since Total Bond Market Index's 1986 inception, there have been 140 months when stocks lost value. Bonds also dropped in just 54 of those months or about 40% of the time when stocks were falling. That's a pretty small percentage. Diversification becomes more reliable as you extend your time frame. If you look at rolling 3-month periods since the bond index fund's inception, only 28 (or 7%) of those 3-month periods saw stocks and bonds in the red at the same time. And, only 2 out of the 406 12-month periods saw both stocks and bonds decline together. By the way, the declines weren't that great. In the 12-months ending in January 2016, 500 Index was down 0.8% and Total Bond Market Index was off 0.6%. And in the calendar year of 2018, the stock index fund was off 4.5% while the bond index fund was down 0.1%. Hardly a disaster in either situation. As I said, diversification isn't broken. That's reflected in our Model Portfolios as well, which are showing decent returns for the year through Wednesday. The Growth Model is up 12.2%, the Growth Index Model is up 12.9%, the Conservative Growth Model is up 9.9%, and finally, the Income Model is up 8.4%. This compares to a 16.4% gain for Total Stock Market Index (VTSAX), a 6.5% return for Total International Stock Index (VTIAX), and a 1.6% drop for Total Bond Market Index (VBTLX). Vanguard's most aggressive multi-index fund, which represents Vanguard's best thinking on diversification, Target Retirement 2065 (VLXVX), is up 10.9% for the year and its most conservative, Target Retirement Income (VTINX), is up 3.4% for the year. Until next week, this is Jeff DeMaso wishing you a safe, sound and prosperous investment future.  Like Dan and Jeff on Facebook
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