As of August 7, the S&P 500 has nearly returned to this year’s February 19 peak, closing 1.1% below the previous high. However, the heavy weighting (by market capitalization) of rising tech stocks masks weaker performance of the overall market. This is shown by the equal-weighted version of the S&P 500 having declined 7.7% over the same period.
Where to look for investing opportunities as the stock market peaks? Many individual tech stock valuations appear stretched while other sectors offer big discounts. To illustrate, energy is down 32.2% and financials are down 20.2%, as reflected by their S&P sector funds. Yet, choosing investments selectively remains important for managing risks associated with the COVID-19 recession. For example, many banks are facing uncertain loan losses from an estimated 30 million unemployed workers and many businesses filing for bankruptcy. Nevertheless, stocks of particular firms can be attractive in each sector. We would expect to find more good values in the distressed sectors and fewer where values are extended.
For clients seeking income, such as in retirement, I constructed a diversified low-volatility stock portfolio that yields about 4.5%. With 10-year treasuries paying 0.57%, which is below the inflation rate, and most intermediate-term investment grade bonds paying 2-3%, dividend-paying stocks offer a much better return profile than current depressed bond yields for long-term money.
For short-term money, FDIC-insured bank deposits pay more than Treasury Bonds of comparable maturities and both are backed by the Federal government. Several banks are paying 1.0% on liquid savings accounts, such as American Express. Rates can change at any moment, so they may not last long. CIT Bank is paying 1.05% on a 1-year certificate of deposit (CD). Remember to stay within FDIC account limits for maintaining insurance coverage. Because FDIC insurance applies to different account types, households can easily obtain more than $1 million of coverage at a particular bank.
With interest rates at lows not seen in decades, a well-diversified portfolio of high-quality stocks for long-term money and bank deposits for short-term money appear better than the traditional allocation between stocks and most investment-grade bonds. Since Target-Date Funds, also known as Lifecycle Funds, typically have a substantial allocation to bonds, I recommend avoiding this popular option. To explore an investment solution that is customized for your needs, schedule a free introductory call here.