Over the years, myself and many of my evidence-based investing colleagues have noticed interesting reactions from our newer not-for-profit clients during times of market distress. Frequently, we will be asked something along the lines of, “yeah, I know that’s what you’re telling everybody, but really, what should WE be doing right now?” The implication, of course, is that those with a very large pool of assets can get access to little known investments or insights that have the ability to avoid market downturns while somehow still participating in the upswings. There is, nor has there ever been, a shred of evidence that these investments or insights exist. Fortunately, mountains of academic evidence give us a playbook detailing what the finance committees of not-for-profits should do in times of distress. And here’s a little spoiler: those with massive portfolios should be doing roughly the same thing as those with not-so-massive portfolios.
Staying the Course and Avoiding Market Timing
Long-term investors (this should usually include not-for-profit institutions), and if you’re not in it for the long-term, you’re more speculator than investor, should not be fazed by a recession or a market decline. In fact, data covering the past century’s 15 US recessions show that investors tend to be rewarded for staying the course. In 11 of those 15 instances, 73% of the time, returns on stocks were positive two years after the recession began, with an average annualized return of 7.8%. Individuals and institutions alike should fully expect that bearing today’s risk will be compensated with positive expected returns. Data also show, conclusively, that there is no reliable way to predict market downturns and trade ahead of them. What usually ends up happening when this is attempted is that not-for-profit institutional investors miss out on a big market bounce back. And missing out on just a few of the market’s best days can have a profound impact on overall portfolio performance. Missing only the 25 best days in the S&P 500 over the past 50 years would reduce one’s total return by 78%.
How Dynamic Portfolio Rebalancing Can Help
So aside from staying the course and avoiding market timing, are we expected to sit on our hands and hope for the best? No, not at all. Dynamic portfolio rebalancing ensures not-for profit investors are consistently buying low and selling high. The first step to being able to pull this off is a written investment policy statement (IPS). Once an IPS is established, the portfolio is allowed to drift within certain parameters, but brought back into balance once those parameters are breached. This is relatively easy to do between different asset classes within equities and when equity markets are outperforming fixed income markets, but gets a whole lot tougher when the bottom is falling out of the stock market. During these times, we must run into the burning house and buy equities. If we don’t buy stock when markets are bad, rebalancing loses its effectiveness. A quick side note here: calendar driven rebalancing is a very poor substitute for dynamic rebalancing.
The secret to avoiding market downturns while still participating in upswings is still out there, undiscovered, and I suspect it will remain that way for the remainder of our lifetimes and beyond. While we wait on that secret to be discovered, the items above will help us achieve our goals, not-for-profit organization and individual investor alike.
To learn more about our evidence-based investment methodology, contact a Claris advisor.
 Fama/French Total US Market Research Index Returns
 Performance data for January 1970–August 2008 provided by CRSP; performance data for September 2008–March 17, 2020 provided by Bloomberg. S&P data provided by Standard & Poor’s Index Services Group.