Client Letter – Q4 2017

During the past year, the best performing asset classes were international small, small value, and emerging markets stocks. 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, 2017

DFA Fund / Index1 Year Return5 Year Return*10 Year Return*
S&P 500 Index21.8315.798.50
DFA U.S. Large Value18.9716.098.73
DFA U.S. Small11.5214.639.97
DFA U.S. Small Value7.2113.318.80
DFA Real Estate (REITs)5.719.477.59
DFA Int’l Large25.377.522.18
DFA Int’l Large Value26.097.961.64
DFA International Small30.2411.755.64
DFA Int’l Small Value27.9812.575.77
DFA Emerging Markets Core36.554.733.04
DFA 5-Year Global Bonds1.971.533.04
DFA Inflation Protected Bonds3.280.033.72

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

The Standard & Poor’s 500 Index has had only two nine-year stretches of uninterrupted gains in its 91-year history: Back in the 1990s, and from 2009 through 2017. This remarkable stretch of profits has been going on since the great bear market of 2008 and was capped with a 21.83% gain, including dividends reinvested, in 2017. And that wasn’t all: gains last year on our overseas stocks—especially those in emerging markets—were generally better than the S&P 500. Our portfolios were the beneficiaries of these trends.

We have never seen 10 straight calendar years of gains in the S&P 500. There is no reason why it can’t happen; it could. From 1926 through 1990 there had never been a gain over nine consecutive calendar years, and then came just such a stretch, the first ever. But there is just as much chance that 2018 will be a losing year for American stocks. “Reversion to the mean”—in other words, a long-term trend that takes the stock market back to its average levels—seems to characterize investment markets. We don’t know whether there is one “true” average stock market gain against which to judge current results. We do know that the S&P 500 has produced annualized gains of about 10% a year since 1926. If 10% is the true long-term market average, then there will need to be a few down years in order to even things out.

None of this is a prediction of 2018. The economy seems to be humming along nicely, with low inflation, low unemployment, and high corporate profits. Those are likely the reasons stocks are doing so well. We don’t know what will happen nor do we care to make a prediction. It is a lot safer and smarter to continue to hold a diversified portfolio that will rise in good years and protect us on the downside in bad years. We don’t believe in overweighting investments that have gained in recent years or in selling off those that have been lackluster.

We also believe in tempering our expectations. A stock market crash could bring returns to more normal levels. So could an extended period of low returns. It would not be surprising to enter a period of low returns, say 6% a year vs. the 15% average of the last nine years. Anything is possible and we think our mix of investment assets prepares us for anything.

Now, since tax time is approaching, we would like to go over where you can find your tax documents. You will receive your 1099(s) directly from TD Ameritrade, or you can download them from TD Ameritrade’s website.  Please note that we do not have your 1099s.  For clients who pay our fees from a taxable brokerage account or from their checking account (NOT from an IRA or Roth IRA), we will post a “Tax Info” document (no later than 1/15) to your eMoney vault in the “Taxes” folder.  Make sure that you give this report to your tax preparer, along with your 1099 from TD Ameritrade.  Due to the change in the tax law, 2017 is the last year that you can deduct our fees on your tax return.

Next, I want to explain a firm-wide change to our billing on “assets under management.”  Since the day I started the firm, we have had an “internal company policy” of not billing on cash held in client accounts.  The new DOL ruling has created a compliance problem for firms that charge different fees (or no fees, in my case) on specific types of assets, such as cash.  Therefore, I’ve decided to change our policy and begin charging on cash held in client accounts.  For most of our clients, the amount held in cash ranges from .5%-.9% of your total assets, which has a very small impact on your fee.  For example, a $500,000 portfolio would pay an extra $20-$25 / year, and a $1 million portfolio would pay an extra $40-$50 / year.  Prior to the DOL ruling, most financial advisors charged fees on cash, but this law is motivating the rest of us to make the change.  The good news is that this is a policy change, so we do not need to make any changes to your investment agreements.

Finally, because of the new tax law, we will be deducting all IRA fees directly from your IRAs, rather than from your taxable accounts. On the contrary, Roth IRA fees will continue to be taken from a taxable brokerage account, if you have one.  I’m more than happy to discuss the reasons for these changes, if you are curious, but they basically come down to the tax efficiency of each account type.

Thank you for making 2017 another amazing year for Sparrow Wealth Management.  Our client base grew 20% this year!  As always, please don’t hesitate to call or email if you want to discuss something or you’re worried about the markets—that is what we’re here for.

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.

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