Stock market Euro-trashed: What does it mean for your clients' wealth?

Brooke’s Note: Talk about coming through in the clutch. I didn’t hear about the market’s pullback until early in yesterday’s San Francisco evening. Ever optimistic, I e-mailed Rob Isbitts in Florida to see if he’d burn some midnight oil and bang out an article to help RIABiz readers come to grips with the market dip. Not long after I received a note from him that he had already written it — and shipped it to me. He had written it for his clients and sent it out as an Emerald GreenThoughts newsletter last evening but agreed that it could be reprinted here. Thank you, Rob.

I’ll admit that I had no intention of writing a column when I woke up today. That feeling had not changed until about 3 p.m. Then it changed quickly.

Today, the U.S. stock market brought back memories of 1987, 1990, 2002, 2008 and more of investors’ worst nightmares. A sharp selloff in everything equity-related occurred [since markets usually dive en masse]. In an instant, the market went away from an: “It’s OK about Greece and such — this is just a little market pullback, a normal correction” to all-out panic, the likes of which we have rarely seen.

Intelligent guess

Forget about the wide variety of explanations you will get online and on the news tonight and tomorrow morning. It is all just an intelligent guess.

Instead, focus on more than what happened today and what will happen tomorrow. Focus on what you want your portfolio to do for you in times of crisis. Focus on how it is positioned for the good or bad things that will happen the rest of this summer, the rest of this year, and over many years to come. But most importantly, know what makes your portfolio do what it does, what makes it go.

Today’s market shock has brought the S&P 500 Index to a level about 6% below where it closed on Monday of this week. That occurred following a gain of over 80% in the past 14 months. Yes, it appears that the dreaded market volatility is back. In fact, today the “VIX” volatility index touched its highest level since the market was still falling in 2009’s first quarter.

OK, those are the facts. Now, what to do? As followers of our investment allocation approach know, we tend to avoid “black and white” decisions, preferring to exist at any moment in time as some shade of gray. As of last night, our portfolios (all three strategies we manage as well as the asset allocation mutual fund we advise) were positioned with what we consider to be above-average levels of cash and above-average positions in securities (mutual funds and/or ETFs) that short the stock market. At the same time, the core of each portfolio continues to own our favorite mutual fund managers, in an allocation we believe strikes a strong balance between risk and reward, over a period of 1-10 years, depending on the fund and the strategy.

Meeting of our investment committee

In other words, we are invested not only across many asset classes, but also across many time horizons. That means that when we had a meeting of our Investment Committee today from 3p.m. – 4 p.m., we acknowledged the entire portfolio in each strategy but focused any potential decision-making on a small portion of each strategy, the part that was already under the microscope for potential change before today’s events.

So, don’t make black or white conclusions from market events like today. The fact that this market shakeup emanated from problems in Greece remind us that there is a very important letter in the Greek alphabet that every investor and financial advisor should be mindful of. That letter is Beta, which is a common measure of an investment’s volatility compared with the broad stock market.

With our technical indicators pointing toward potentially more damage in this seasonally difficult May-November period, but with sharp moves in either direction now back on the table given today’s volatility spike, it’s a great time to figure out for yourself [and your clients if you advise clients] what kind of Beta you want to be invested to, following a 6% decline after an 80% rally.

Willing to take the criticism

We are very willing to take the criticism when we characteristically lag strenuous up markets, because we know that deep down, what every investor wants is to FIRST be protected, and THEN to pursue long-term growth. That’s why we will always try to take the more conservative of two paths when tough decisions are to be made. We think it has served us and our clients/investors very well over the years, but sometimes it takes a day like today to remind oneself of that.

To that end, here is an outstanding article summarizing where we believe all of this negative market energy comes from. It is written by one of our favorite market watchers, David Rosenberg of Toronto-based wealth manager Gluskin Sheff. It is ironic that he published it this morning.

Read: All part of the global deleveraging story

Robert A. Isbitts, a 25-year industry veteran, is a newsletter writer, published author, and investment strategist. He is also the lead-manager of asset allocation mutual fund and a global equity mutual fund. For more information on those mutual funds, visit www.easfunds.com. His second book, “The Flexible Investing Playbook” – Asset Allocation Strategies for Long-Term Success” was published by John Wiley & Sons in August, 2010.

The information herein has been obtained from sources believed to be reliable, but Emerald Asset Advisors, LLC (“Emerald”) does not warrant its completeness or accuracy. Prices, opinions and estimates reflect Emerald’s judgment on the date hereof and are subject to change at any time without notice. Any statements nonfactual in nature constitute current opinions, which are subject to change. Projections are not guaranteed and may vary significantly. Further information on the firm and its advisory fees may be obtained from the firm’s Form ADV Part II, which is available without charge upon request. Complete descriptions of all Emerald’s products and benchmarks are available upon request.