How to invest amid the uncertainty in Washington

One of the most frequently asked questions by investors these days seems to be: how do I adjust my portfolio for the new administration in Washington?

We’re in a period of what I think is unusual uncertainty in the markets. Before considering any potential change in policies, uncertainty already was very high.

As you know, we’re still dealing with the change in the long-term credit and debt cycle. Debt increased steadily from about the end of World War II until 2007. Debt growth helped increase economic growth above what it would have been.

In 2007, however, we reached a point where the debt levels were unsustainable. That led to the financial crisis. We’re still in a transition period in which debt is slowly retreating to levels that are sustainable over the long-term. The debt-reduction causes lower levels of economic growth. This transition period is when we’re also at risk of policy mistakes causing deflation and negative economic growth.

At the same time, we have the regular three- to seven-year business cycle. In the United States, we’re in the positive phase of that cycle. We have sustainable growth. Inflation and wages are starting to rise. Stock valuations are at high levels. The Fed is tightening monetary policy.

So, we have those two cycles in tension.

That was the situation on Election Day and it remains the situation today.

Now, we add the potential for policy changes, and that increases uncertainty.

After the election, investors focused on the positive potential policies: reduced regulation, tax reform and pro-growth policies.

Since the inauguration, other possibilities have grabbed investor attention: trade and immigration restrictions, conflicts with other countries and the difficulty of pushing some of the Trump administration’s proposed policies through Congress.

These conflicts and the related uncertainty are why many investors are wondering how they should change their portfolios. What’s particularly unusual as I look across global markets is that market pricing doesn’t reflect the high level of uncertainty and wide range of outcomes that are possible. Investors don’t seem to have adapted their portfolios to their thinking and concerns.

I continue to advise that you not try to anticipate a particular set of policies or outcomes. Yes, you could be correct and have a high return. But there’s a greater probability you’ll be wrong and suffer a major loss. The number one rule of investing is to avoid large losses.

In this period of high uncertainty, you want a high level of diversification. You won’t earn the highest return in any extreme scenario. But you take almost all the probability of a large overall loss off of the table. Whatever happens, some of your investments will benefit while others won’t. You should earn steady, solid returns, as we’ve done for years.

I also recommend having a process that helps you determine which changes to make. That’s what we do at Retirement Watch. We look at the factors that matter to the markets and let those tell us how to modify our portfolios as markets and the economy change. We don’t chase headlines, short-term market changes and forecasts.

It is also important to focus on liquid assets and markets. In times of crisis, liquidity tends to be reduced. Investments with low trading volume and liquidity tend to drop sharply in price and have no markets at all for a while, as happened in 2008.

Those are the three principles you need in this time of high uncertainty.

— Bob Carlson

If you want my help in forecasting the market and in what to buy this year, I urge to you join my Retirement Watch subscribers in receiving investment recommendations from me. For further details, please click here.
Bob Carlson wrote the book on retirement and retirement planning – twice: “The New Rules of Retirement” (Wiley, 2nd ed. 2016) and “Personal Finance after 50 for Dummies” (with Eric Tyson; 2nd ed. 20-15). He also is the lead writer for the website.

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Bob Carlson