Client Letter – Q4 2013

What an amazing year!! U.S. small and value asset classes earned over 40% returns, with large U.S. growth stocks and international stocks not far behind in the 20% and 30% percent range.  The following chart shows the 1-year, 5-year, and 10-year performance of many DFA funds (representing different asset classes) compared to the S&P 500 Index:

Market Returns for the period ending December 31, 2013

 DFA Fund / Index 1 Year Return 5 Year Return* 10 Year Return*
S&P 500 Index32.3917.947.41
DFA U.S. Large Value40.3221.028.88
DFA U.S. Small42.2123.7810.15
DFA U.S. Small Value42.3822.8910.02
DFA Real Estate (REITs)1.3916.448.22
DFA Int?l Large20.6912.227.03
DFA Int?l Large Value23.1212.988.05
DFA International Small27.4417.6710.31
DFA Int?l Small Value32.3917.0910.92
DFA Emerging Markets-3.1214.8111.63
DFA 5-Year Global Bonds-0.413.663.60
DFA Intermediate Gov?t Bonds-3.523.054.67

*Note: Returns for periods greater than 1 year are annualized.  Top 3 returns are in bold.

While most equity asset classes earned between 20% and 42% for the year, there were a few weaker asset classes—namely, emerging markets, real estate, and bonds.  For those of you who have 50% or more in bonds, you really felt the “dampening effect” of bonds on your net return this year.  Make sure to look at the 5 and 10 year returns in the chart above to see the long term averages for different asset classes.  Despite strong U.S. returns the last few years, the international asset classes are still in the lead for the best 10 year returns.  This is why we diversify!!

The bull market came out into the open during 2013. Although the four previous years had seen a big run up in global stock prices, many individual investors appeared not to have noticed: the specter of the 2008 bear market continued to loom too large in their minds. However, it was hard to ignore the excellent gains stocks enjoyed last year as prices relentlessly pushed higher throughout most of the year.

There were plenty of reasons for the strong rally: the multiple crises in Europe calmed down, the anticlimactic budget fight in the U.S. ended in a rare accord with the new budget deal, China stabilized, Japan finally began growing again, and, for once, the U.S. did not send troops into another Middle East war. Quite frankly, though, those geo-political events were sideshows for the markets. What really mattered, as usual, were rising corporate profits driven by a steady improvement in the economy.

We believe this trend will continue in 2014. We expect the road to be bumpier: We haven’t had a serious market correction in over a year, so we won’t be surprised by one or more declines of 5 percent to 15 percent. But it looks like the world economy is still strengthening and as long as that continues stock prices have room to grow.

On the other hand, we caution against excessive optimism. Bull markets end when almost everyone is optimistic and throwing money at stocks. We urge you not to doubt your current investment allocation. You hold bonds and real estate as hedges against declines in stocks. A prudent investor will stay diversified, rather than chasing the latest trend. When looking at your portfolio returns, it is worth noting that you won’t always match or beat popular U.S. stock indexes. Sometimes your diversification will put you ahead of those indexes, and sometimes not. That’s not the point anyway: you are trying to meet your life goals, not beat Wall Street.

Now, since tax time is approaching, we have included just one tax-related document in this quarterly mailing. For clients who pay our fees from a taxable brokerage account (NOT an IRA), we have provided a report that shows the fees you paid Sparrow Wealth Management in 2013. Make sure that you give this report to your tax preparer, unless you have authorized us to email it to them.

Beginning this year, TD Ameritrade (TDA) will report the cost basis for your taxable accounts on your 1099s, which should be mailed to you in February and March 2014.  TDA mails these directly to you, so you will need to save the 1099s with your other tax documents and give them to your accountant.  In prior years, I have provided the cost basis and TDA has provided the 1099, both of which you’ve had to give to your accountant.  So, the change going forward is that you will get the cost basis in your 1099 directly from TDA via mail, or you can download the 1099 from TDA’s website, and you should give this to your accountant.  SWM will not provide 1099s to you or to your accountant, since these come from TDA.

In December 2012, we launched the Sparrow Wealth Management online vault, which provides a secure location for all of your financial, tax, and estate documents. So far, roughly 90% of you have logged into the vault using the username and password that we sent via email. For the few of you who haven’t logged in yet, please do so very soon! We plan to use this vault to send your quarterly bills and reports in the very near future (eliminating the need to do this hard copy mailing).

Finally, we want to thank all of our clients for an amazing 2013!  We appreciated your referrals.  We want to remind everyone that you can keep up with our thoughts on the markets, investing, and financial planning through multiple outlets. Our website home page lists the most recent updates from our blog, newsletter, and “in the news” areas. You can follow us on Twitter at @sparrowwealth. We are also on Facebook and LinkedIn.  Please feel free to call or email anytime.

Happy New Year!

Chris signature

About Christopher Jones

Christopher Jones is the Founder and President of Sparrow Wealth Management, a fee-only financial planning and investment management firm. Before entering the investment field, Chris was a management consultant for Deloitte Monitor. He graduated summa cum laude from Brigham Young University with a B.S. in Economics and a minor in Business Management.