Northwestern Mutual
ASK THE EXPERT LARGEF ASKTHEEXPERT SMALL
< Back to Insights & Ideas

The Wrong Move Some Investors Are Making Right Now

Brent Schutte, CFA •  December 20, 2016 | Your Finances, Ask the Expert

Each month, we book time with some of our company’s top financial brain power to answer questions about investing and your finances. This month we’re talking about diversification and why some investors may be making the wrong move when it comes to that.

Mark McLennon

Mark McLennon is vice president of Investment Products and Services (IPS) Business Development. He oversees the fee-based financial planning program and departmental growth initiatives.

Brent Schutte

Brent Schutte is chief investment strategist of Northwestern Mutual Wealth Management Company. He oversees the investment philosophy for individual retail investors and the investment strategy for more than $100 billion in assets under management as of February 2016.

Do you have a question for our financial experts? Email it to us at: AskTheExpert@northwesternmutual.com

The following is an excerpt from our Ask the Financial Expert podcast (listen to the entire podcast below):

Mark: Thanks for joining us again for Ask the Financial Expert. Brent, it’s been a few exciting weeks for investors—you know, the Dow hit a record high, nearly cracking 20,000. The S&P 500, NASDAQ—they pretty much did the same. It seems like the U.S. is really cooking, so my question is, should I just stick to those 30 names in the Dow Industrial, or should I really diversify across the U.S. equity market?

Brent: Before I get into the sectors and whatever else, I do want to say that the Donald Trump rally—as people are calling it—has kind of taken hold. Underlying it, we think, there is actually economic recovery going on. So Trump gets a lot of credit for the rally right now. But I think people are missing the boat on the fact that the U.S. economy is actually doing quite a bit better, and for that matter the global economy is doing better. So, to kind of take it back to your question on whether or not you should just own 30 names, the answer is no. At this point in the cycle, this is something that I really worry about: that investors are starting to get tired of looking at things that aren't working in their portfolios, and they’re now starting to weed those out. I think it’s exactly at the wrong time.

Free Download: Northwestern Mutual’s Guide to Investing

Mark: Yeah, I was being a little bit facetious, but it seems that with those certain parts of the market being on a tear, diversification has become a word that’s less in favor than before.

Brent: And that happens from time to time. I get the question about diversification quite often, and I usually ask people, “Well, do you want diversification?” And of course, everybody thinks they should have it and they raise their hand. Then I say, “Well, you want it until you get it.” Because when you get it, it means that something is not performing well. It’s kind of an insurance policy or hedge. Right now, we’re at the point where for two or three years we’ve worried about the same types of things. People have deflation on their minds, they have secular stagnation, they have “lower for longer” and so on. I think what we’re seeing right now is a trend shift. We’re starting to see trends of the U.S. economy getting better and the global economy getting better, and that means that how you invest for the future will likely change or tweak. The things that outperform will be different than what they were for the past two or three years. Unfortunately, I fear that investors are now doing what they always do at a time like this. They’re getting rid of things because they haven’t worked, and it’s exactly the wrong time to be doing that.

Related Article: Resolve to Not Make This Investing Mistake in 2017

Mark: Well, it seems like areas of the economy or sectors or asset classes—whatever you want to call them—they take turns being in and out of favor or being talked about. You know, oil, China (even just as a region) comes to mind just in podcasts that we’ve had in the past, but now with this run with U.S. large cap stocks, didn't that happen before?

Brent: Yeah, this reminds me of 1999. So I want investors to know that diversification is something that they should have. It doesn’t pay constantly, but it does pay over a longer period of time. You may be tired of owning things like emerging markets and international stocks. But those are the ones that I’m afraid investors are weeding out of their portfolio because they go down line by line and they say, “Well, why don't we just own the U.S. because it’s clearly performing the best.” At this point in the cycle, if the global economy is getting better, everybody knows that there’s more risk in the Eurozone, everybody knows that there’s more risk in the emerging markets, and perhaps those are the areas where you want to be going forward. To take it back to 1999, the S&P 500 had outperformed international markets by over 200 percent over a five- or six-year time period. And I couldn't get anybody to buy emerging markets or international. What happened next? From 2000 to 2007 the U.S. did about 1 percent, emerging markets did 20 percent per year, and the international markets did somewhere in between. And so these things do cycle. Think back to China. In 2007 people wanted to only own the emerging markets. The narrative was that China was eating our lunch, that China was the place to invest, it was going to grow at 8, 10 percent forever. Now, we’re on the opposite side of that. People don't want to own emerging markets or China because it hasn’t done well, and I guess—to keep it from financial jargon about valuation or anything else—just being grounded is a way to have success in this industry. 

Hear more from Brent and Mark in the “Ask the Financial Expert” podcast:

Do you have a question for our financial experts? Email it to us at: AskTheExpert@northwesternmutual.com

The opinions expressed are those of individual investment professionals as of the date stated on this article and are subject to change. This material does not constitute investment advice, is not intended as an endorsement of any specific investment or security and is not a prediction of what will happen in the markets.

Please remember that all investments carry some level of risk, including the potential loss of principal invested. With fixed income securities, such as bonds, interest rates and bond prices tend to move in opposite directions. When interest rates fall, bond prices typically rise; and conversely, when interest rates rise, bond prices typically fall. This also holds true for bond mutual funds. When interest rates are at low levels, there is risk that a sustained rise in interest rates may cause losses to the price of bonds or market value of bond funds that you own. At maturity, however, the issuer of the bond is obligated to return the principal to the investor. The longer the maturity of a bond or of bonds held in a bond fund, the greater the degree of a price or market value change resulting from a change in interest rates (also known as duration risk). Bond funds continuously replace the bonds they hold as they mature and thus do not usually have maturity dates and are not obligated to return the investor’s principal. Additionally, high-yield bonds and bond funds that invest in high-yield bonds present greater credit risk than investment-grade bonds. Bond and bond fund investors should carefully consider risks such as interest rate risk, credit risk, liquidity risk and inflation risk before investing in a particular bond or bond fund.

Rate This Article