Insights

In The Know Podcast

January 2023

INTRODUCTION

Markets, portfolios, and investments can be easy to misunderstand. Financial news stories often focus on what’s happening that day, sometimes ignoring longer term trends. At BlackRock, we often get asked – what do you think? What are the best investors in the world truly watching? What are financial advisors doing for their clients? And can you boil it down to one simple message?

We’ll do our best. On each episode, we strive to bring you the best of BlackRock’s insights to tell a simple story. I’m your host, Dennis Lee - welcome to BlackRock’s In The Know Podcast.

MARKET STORY

Today’s one simple message: bonds are back. Stocks have done the heavy lifting for portfolios for the last decade. And as interest rates steadily declined over the last few years, approaching 0% in 2021, it seemed almost pointless to buy bonds, as they returned almost nothing. That very quickly changed at the end of 2022 and going into 2023. To help fully explain what this all means, we’ve made a slight departure from our usual programming to bring you the first in a series of Market Stories.

Today’s market story is called The Weird Journey of the 60/40 Portfolio.

I'll give you two scenarios to choose from, so listen carefully. Option one, your cousin is starting an electric seesaw company called Stok – S T O K. (It seems like most companies these days give themselves a weird spelling for search engine optimization.) In any case, your cousin says Stok is the “Tesla of seesaws!” You have a healthy dose of skepticism, but you also see the potential. She offers you partial ownership of the company for $1,000.

Here's option two. Your friend Bonnie (she goes by Bonz), asks to borrow $1,000 and promises to pay you a coupon every six months for 10 years, at which point you could have your original loan back. And, you know Bonz is trustworthy because she often borrows money from many friends and pays them back.

Which would you choose? Option one: Partial ownership in Stok, the seesaw company or option two: lend money to your friend Bonz? I'll pause a few seconds while you make your decision.

Which did you choose? Stok or bonds?

Well … why not both?

So of course, we're using Stok and your good friend Bonz as proxies for stocks (aka equities), or bonds (aka fixed income). And yeah, I think most people's instincts are right here. Why not both?

So the weird journey of the 60/40 portfolio starts right there, with that idea. Why not both.

Harry Markowitz is credited with first proposing the idea of a 60/40 portfolio as the foundation for investing. That's 60% stocks, 40% bonds.

You can read all about it in his essay published in the Journal of Finance in 1952. It's a page turner … for some people. But it has been an anchor for investors for decades. The idea is that a mix of stocks and bonds allows you to be diversified. Over the course of history, stocks, while riskier, have tended to have higher returns. Bonds, while historically returning less, still yielded enough and tended to have lower risk. The beauty of owning both was that, in general, when stocks did poorly, bond prices rose, as investors preferred the steady nature of bonds in times of uncertainty.

But the truth is, a 60/40 portfolio was never an investment strategy to achieve a certain target. It has always just been shorthand for a middle-of-the-road portfolio with a medium amount of risk. Pretty vague right? To make it even more vague, the middle of the road has shifted back and forth over the last few decades.

For example, in 1995, a 60/40 portfolio would have yielded a modest 6.5% from both bonds and stocks. In 2007, just before the financial crisis, bonds actually yielded enough so that you could have had 95% bonds, and 5% stocks to get to a 6.5% yield. That’s not a 60/40 portfolio, but a 5/95 portfolio. And then again in 2015, you would have needed 80% stocks, and 20% bonds to hit that 6.5% yield. And that was the story for much of the past few years…until 2022.

Owning bonds in 2022 was actually quite painful. If you bought bonds before 2022, it’s likely that they yielded very little, and then bond prices themselves decreased on the back of unexpected rate increases from the Federal reserve, and there's no escaping that math. When rates rise, bond prices go down.

But if you are buying bonds today, it’s a different story. Rates have risen, meaning bonds are paying a much higher coupon than we’ve seen in years. And the risk of rates rising like they did in 2022 is fairly low, as most economists agree that central banks will have to slow rate hikes as the economy cools.

What this all means is that in order to shoot for 6.5% yield on your investments in 2022, you could actually own 65% bonds, and 35% stocks.*

If you do a quick search on Google, you’ll find articles heralding the end of the 60/40 portfolio. And that's sort of true, but depending on when those articles were published, the reasons may be different. If it was published in 2020, it may be because bonds provided little diversification, returned almost nothing, and stocks were super volatile. Your friend Bonnie or Bonz would have actually paid you less than $10 or less than 1% off of a $1,000 loan. Today, even the least risky government bonds are giving you close to $50 or 5%.

So let's go back to the original question that we asked at the beginning of the story. Invest in STOK, the seesaw company, or lend your money to your friend Bonz? And your answer, of course, might factor in your risk tolerance. You might choose Stok because you have a long time horizon and you see a future in which your grandchildren will ride on a Stok on every playground. And perhaps you don't mind the ups and downs of a seesaw company.

But the major piece of information that you didn't ask or maybe in your head you did, but every investor should think about is – how big is the coupon or the yield that Bonnie, or Bonz, or Bonnifer as I like to call her – how much is the coupon she’s offering? Last year she would have offered less than 1%. Today, it's close to 5% and it's changed the game.

If you're like many retirees at this moment, a modest yield of 5% with lower risk really might suit you and your answer to the question at the beginning of this story might be – go with bonds.

But if you're like most of America, the big implication here is that it's time to put your cash to work – and don’t assume that a 60/40 portfolio is the answer to your problems all the time. Because bonds are back. Talk to a financial professional and adjust accordingly.

DISCLOSURES

Investing involves risks including possible loss of principal. This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of January 2023, and may change as subsequent conditions vary. The information and opinions contained in this material are derived from proprietary and nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this material is at the sole discretion of the listener.

*The figures presented in the 6.5% yield illustration are as of November 16, 2022, according to data by BlackRock and Bloomberg. “Fixed income” is represented by a set weight of different fixed income allocations (40% Investment Grade, as represented by the ICE BofA U.S. Investment Grade Index, 30% Emerging Market Debt, as represented by J.P. Morgan EMBI Global Core Index, 10% 10 Year Treasury Bonds, as represented by the U.S. 10-Year Treasury, and 20% High Yield Bonds, as represented by the ICE BofA U.S Index). “Equity” is represented by the S&P 500 earnings yield. Index performance is for illustrative purposes only. Index performance does not reflect any management fees, transaction costs or expenses. Indexes are unmanaged and one cannot invest directly in an index. Past performance does not guarantee future results.

This material is provided for educational purposes only and is not intended to constitute investment advice or an investment recommendation within the meaning of federal, state or local law. You are solely responsible for evaluating and acting upon the education and information contained in this material. BlackRock will not be liable for direct or incidental loss resulting from applying any of the information obtained from these materials or from any other source mentioned. BlackRock does not render any legal, tax or accounting advice and the education and information contained in this material should not be construed as such. Please consult with a qualified professional for these types of advice.

Fixed income risks include interest-rate and credit risk. Typically, when interest rates rise, there is a corresponding decline in bond values. Credit risk refers to the possibility that the bond issuer will not be able to make principal and interest payments.

Diversification and asset allocation may not protect against market risk or loss of principal.

Prepared by BlackRock Investments, LLC, member FINRA.

©2023 BlackRock, Inc. All rights reserved. iSHARES and BLACKROCK are trademarks of BlackRock, Inc., or its subsidiaries in the United States and elsewhere. All other marks are the property of their respective owners.

In The Know Podcast: When the market gives you lemons …

November 2022

DENNIS LEE: Markets, portfolios and investments can be easy to misunderstand. So on the show today, we'll bring you a few minutes from each of BlackRock's top thought leaders to help explain what's happening in markets in simpler terms. Here's what have on the agenda. First, Interesting Numbers with Mark Peterson, Director of Investment Strategy and Education. How do I make sense of market swings? How do markets perform in midterm election years? And what could happen if we entered a recession?

Next, we’ll have our featured segment on making lemonade from lemons with Danny Prince, Head of iShares Product Consulting. What juice is there to be squeezed? Well, it turns out viewing your portfolio with a tax lens is probably the best thing you can do right now. We’ll hear from him and why he wants to rename Tax Loss Harvesting season.

And then last. What should I do? Most often than not, markets are a long game and staying calm amid the storm is your best bet. But still, we often hear … Yeah, yeah. But really, what should I do? So we’ll bring on Carolyn Barnette, Head of Market and Portfolio Insights, to take everything we've heard and try to answer that question for you as an investor. And that's it. Hopefully, by the end, you'll be speaking the language of markets just a little bit more fluently. I’m your host Dennis Lee. Welcome to BlackRock's In The Know Podcast.
DENNIS LEE: It's now time for a segment we call 'Interesting Numbers.' It's the most interesting segment with the most boring name. We're joined by Mark Peterson, Director of Investment Strategy and Education who publishes his popular 'Student of the Market' piece, which covers historical insights each month. I highly recommend checking that out on BlackRock.com. today. Mark, I just wanted a little bit of therapy. Markets are tanking, doing very poorly. What can you tell us about what's been happening this year?

MARK PETERSON: Yeah, certainly historical, Dennis, when you look at the numbers, both on the bond and stock side, unfortunately. Just starting with bonds, they're down about 14% through September, which was the worst start by far ever in the bond market, down that much from a total return basis. You look at the worst year ever for bonds was 1994, down a little bit less than 3%. So think about that.

Right over 14% loss for the Core Bond Index where, historically, the worst year ever is down less than 3%. And that goes back 95 plus years of good data that we have. And on the stock side, not much better, fourth worst start ever, fourth worst start ever for stocks, only 1931, 1974, and 2002 were worse. We're down almost 24% through the end of September.

So, obviously, that combination's pretty rare. You rarely see stocks and bonds down in the same calendar year, right? Usually, one zigs while the other zags.

If you look back, historically, we've only had two calendar years in which both stocks and bonds lost money in the same year. That was 1931 and 1969. So unless we get a furious rally here in the fourth quarter, we're on pace for, really, the worst year, combined year ever for both stocks and bonds. We've had, certainly, years that were worse for stocks. But, certainly, this level of loss along the bond side-- this level of loss on the bond side and the fact that stocks are down in bear market territory, truly unique.

But I do think it's going to be an opportunity at some point, right? You just look back historically. And you get these historical outliers, like we're seeing on the bond side.

I think, you've got to think about putting money back to work here, right? It's just so odd to have such a historical leap from what normally happens with total returns on the bond side. I just think, oftentimes, those periods can be a buying opportunity, not necessarily something to just pull to the sidelines on.

DENNIS LEE: You talk about the numbers of the worst performance for a 60/40 portfolio in recent memory. It does seem like there have been an awful lot of swings.

One day we're hearing about losses in the stock market. And then the next, we see a big rally. And that's the big news story of the day. What does volatility look like this year?

MARK PETERSON: Yeah, no surprise, right, given all of that bad news, there's a lot of volatility. We measure it with 2% trading days, right? We don't use the VIX, the volatility index, because I can't explain what that is. But we use 2% trading day, so just any day the market's up or down by 2% or more. And we've had 33 through the end of September.

And just to put some context to that, we had seven all of last year, 44 back in 2020 when the pandemic and the shutdowns were setting in. So very similar pace to what we saw back in 2020 but nowhere near what we saw back in 2008 when we had 72 days that were plus or minus 2%. And the market's open about 250 days a year. So 72 days, back in 2008, that was one every three or four days, we were getting a 2% move.

I think, one thing interesting, I've talked to a lot of folks about-- across the country, is the fact that, you'd think with the market down almost 24% on the stock side that they'd all be bad days, right? You'd think those 33 2% moves would all be on the negative 2% or mostly on the negative side. But they're actually split pretty equal.

Through the end of September, it was 15 positive days and 18 negative days. And this is something we always see with volatility. When you get into periods like this where the market's really swinging back and forth like that pendulum, it's a lot of good and bad days sitting right on top of each other, right?

All the-- some of the negative returns aren't driven all by negative 2% days. You have some really good, positive 2% days as well. That's one thing that always makes timing the market so difficult, right?

It's the old market adage, time in the market, not trying to time the market, because, even in a period like this, if you move out, you might miss some of the best days on the other side, which is just going to make the bear market even worse. So I think, that's something we always try to highlight with folks is, in periods like this, more important than ever to stick with the market. Don't try to time it. You don't want to miss those best days on the other side.

DENNIS LEE: Mark, super interesting and another reason why, as you said, getting out of the market isn't always the best strategy during these times. Talk to us a little about inflation. We know that's been driving a lot of what the Fed is doing and affecting both stock and bond markets. What does inflation have been looking like?

We know that we have seen another what we call, I suppose, a high CPI print this month. But what does inflation look like to you, according to history? And where will that take us?

MARK PETERSON: Yeah, certainly, inflation's still lingering, I think, more than folks hoped. But we are starting to see a little bit of a down trend, right? It peaked at 9.1% back in June. We're down to 8.2, here, in September, so certainly down, maybe, not as much as everybody hoped, I think that's always somewhat of the challenge with inflation, tends to be a little bit stickier than everybody hopes, right? It goes down a little bit slower than it goes up.

But I think the good news is, you go back historically and you look at performance for both stocks and bonds following peak inflation and, generally, the returns are pretty darn good. Just going back in all the different peaks in inflation, if you look on average, stocks are higher, 21% one year later. Bonds are higher on average, 7% one year later.

And I think all those periods were positive one year later, with the exception of 2008 during the global financial crisis. You peaked, with inflation, at a little bit over 5%. And stocks were down about 20% the next 12 months. All the other periods, whether it was in the '80s or '70s, stocks were higher and fairly significantly higher, following that peak in inflation. So certainly the hope there is that we're closer to the end than the beginning, both from an inflation standpoint and, both a stock and bond performance standpoint, right?

That we've priced in a lot of bad news. And, really, you think about it, we touched it on the bond side, right? Probably, not a bad time for folks to think about putting money to work, right?

You've got bonds down historic levels. You have stocks, certainly, down in bear market territory. If you look back, historically, anytime buying stocks at 20 plus percent discounts from-- on their price from the beginning of the year, that's smiled favorably on folks over a longer term time period. So I really think folks-- to your original point where you started, I think, we've priced in a lot of bad news. Maybe, it's the time to start thinking about taking advantage of prices at these levels and getting money back to work, making sure we're well positioned for the other side of when we get there.

DENNIS LEE: That's right. Earlier we were talking. You mentioned that there are a few types of recessions over the course of history.

And we haven't even designated the current market or-- as a recession. We may see one in the next couple of years. But it seems like this is a time period where the market is pricing in an inevitable recession. And that that may actually bode well for markets over the next few years.

MARK PETERSON: Yeah, no, it's a great point. I think this is one of those where every period is a little bit different, right? How much does the market price in the recession before it happens?

I think we're doing that a lot right now. If we don't have a recession, if these two negative quarters of economic growth aren't determined to be a recession-- which it can take a while, right? It'll take the next year till they actually put the official proclamation on it.

If that's not a recession, we've already priced in a pretty good decline in stocks already. Even if we get a recession in 2023, we might have priced in a lot of the pain already. And you see that historically where, sometimes, you can see the recession coming, right? Sometimes, it's very clear and evident. And other times, it's more a surprise, especially from the severity of the recession, right?

2008 is a great example, in the global financial crisis. I think everybody saw the weakness in the economy. But they underestimated how bad it could be that you had Bear Stearns and Lehman Brothers fail. And you had more of a financial crisis that anybody would have anticipated. And you saw a lot weaker performance in stocks, during that recession, than you saw in some of the other previous periods, because it was such a surprise.

So I think-- this time around, I think everybody can see it coming, right? Can see the weakness, can see the fact, the Federal Reserve's raised short term interest rates by a historic amount. That's clearly going to act as a brake on the economy.

So I think we're pricing this one in with-- pricing in a lot of that pain in advance, where we might actually get to the recession and might actually see stocks rebound a little bit, stocks and bonds for that matter, rebound a little bit, just because, you'll get to the point where the Fed might take a pause and stop raising short term interest rates, eventually, might ease and cut interest rates, if the economy continues to struggle. All those things could be good for both stock and bond performance. But I think it's a great point you bring up.

It's just, every period's a little bit different. How much the market prices in it advance does vary from period to period. I think, clearly, with the performance we've seen year to date, we're pricing it in advance.

DENNIS LEE: I want to go back to a point you made earlier, which is that stock market returns and bond returns have actually been fairly strong after peak inflation hits. Why is that? Is that related to what the Fed is doing? Or what's your theory on why performance tends to be strong after peak inflation?

MARK PETERSON: Yeah, following peak inflation, I think the main driver is just the expectation that interest rates are coming down. Certainly, some periods, you had higher interest rates to help, especially in the bond side, buoy returns. So you had periods in the '70s and '80s where you had double digit interest rates. So just that income alone was a pretty big boost to two-year return on your bond side. On the stock side, I think it is the expectation that interest rates come down. Stocks look a little bit more attractive. And that's been good for performance going forward. So you see that pretty consistently throughout history, following peak inflation, even when inflation was at pretty high levels, right? Stocks did pretty good after the fact, after inflation started to roll over.

DENNIS LEE: Well, certainly, a lot of interesting numbers for us to digest here, Mark. What can you tell us, from your data, in terms of how markets perform around midterm election season?

MARK PETERSON: Yeah, midterms, always a big topic of conversation here, this time of year, a lot of commercials, and a lot of drama with the elections. And you look back, historically, midterm election years are pretty bad for stock market performance. It's below average, pretty substantially, when you look back historically. About 8% returns on average for those midterm election years which is well below a 10% average for stocks over a long period of time.

And interesting, if you look, the first three quarters of the year are, basically, flat in these midterm election years. So on average, performance in stocks doesn't go up or down. Or it doesn't go up at all in these first three quarters, on average.

But the fourth quarter, once you get to October, and you get to the election, and pass the election, returns for stocks are really good. You can see, in our 'Student of the Market' piece, we highlighted the performance in the fourth quarter is-- in midterm election years, is by far the best performing fourth quarter of any of the presidential election year cycles. Normally, average around 3% in the fourth quarter, midterm election years you average six. So you think about that, that really sticks out like a sore thumb as well.

Granted, some of that might be just a coincidence that you happened to get some good fourth quarters. But I think, there might be some truth to the fact that the election weighs on folks a little bit, some self-inflicted wounds, that we create a little bit too much drama in some of these presidential election years. And that doesn't really wane until the fourth quarter. As we get close to the election, get after the election, performance starts to come back in stock. So, hopefully, we'll see that play out again this fourth quarter.

DENNIS LEE: Yeah, Mark, as you're mentioning, I suppose it could be luck. But that's been measured over, I think 24 midterm election cycles, right? And I think, part of the uncertainty that you're talking about is that the house tends to change parties.

It has so, I think, for the last 22 or the last 25 midterm elections. And so, I guess, the theory goes that, markets leading up to the election are just uncertain about what's going to happen. And then, once the result becomes more clear, markets seems to adjust better to that certainty.

MARK PETERSON: Yeah, no, that seems to be the case. Again, you think about 24 midterm elections, that's not a huge sample size, though, so at the end of the day. So you certainly have some big periods in there where it's switched.

You look at some of the worst starts, historically, to a year in stocks, I think we were talking about the four of the worst starts for stocks, including 2022. Three of those four years have been midterm election years, which is interesting. So, clearly, there's something going on there, right? It's not a huge data set. But it's-- whether it's economic weakness or just even, like you mentioned, some of the uncertainty and turmoil around some of that political noise in the short term, it certainly seems to be the case with the midterms.

DENNIS LEE: Thanks again, Mark, for joining us on the podcast. We'll see you next time.

[00:17:05.42] MARK PETERSON: Thanks, Dennis.

DENNIS LEE: I'm now joined by Danny Prince, Head of iShares’ Product Consulting for our featured segment on tax loss harvesting. It happens that it is harvest time around now and November. But this is often the time where we talk to clients about tax loss harvesting, which Danny would contend, maybe, has the wrong name. But I'll let him cover that.

Danny, thank you for being on the show today. And I just wanted to start by asking you, what is tax loss harvesting? We've heard a lot about it that we should do it, especially now. But I just want to get to the basic question. What is it exactly?

[00:17:46.96] DANNY PRINCE: Yeah well first off, thanks for having me on the show here. And you're right, Dennis. This market sell-off has really created this opportunity. And the industry has talked about it a lot.

But simply put, tax loss harvesting strategies are taking an asset that you have that's down in value-- which, it feels like there's plenty this year-- and taking that asset, and selling it at a loss, realizing that loss, whether it's a single stock, a bond, mutual fund, ETFs. You could sell that asset. And it has to be in a taxable account.

That's the important thing there. And what you do is, you take that loss. You redeploy your cash. You stay invested. And you can effectively use those losses to offset future gains, current gains, and, in some cases, ordinary income.

So you can create an asset from a tax perspective. The goal is to stay invested, so you don't miss out on any market rebound. But, effectively, add some value when it's hard to find in declining markets, like we've seen this year.

DENNIS LEE: So I've always been told, you should never buy high and sell low. That's how you lose money. So that's not exactly what's happening, correct?

DANNY PRINCE: Correct, right, the key-- and, maybe, we need to rename this strategy, because, if I told my father he's going to harvest losses, I think he's going to-- he thinks he's going to just take home losses. And that's it. He's going to call it a day.

This is about, when your asset is down, you are already-- you have unrealized losses. But they don't do anything from you first, from a tax perspective. Realizing them can be used to offset other gains in your portfolio or up-- ordinary income up to $3,000 per year.

But what you don't want to do is sell and be out of the market. So this is where it gets tricky. When you sell the asset that's down and realize loss, you want to redeploy that as soon as possible and, ideally, in something similar. So if you do see a rebound in the market, you participate. So you are actually riding the wave of markets, as opposed to getting out of the markets.

This is not a timing exercise. This is not getting out of the market exercise. This is simply taking advantage of tax laws to offset future liabilities.

So let's rename this here on your show. I'm going to call this the tax offset strategy. And now my dad is super interested in offsetting losses. And we never have to call it a loss harvesting strategy again

DENNIS LEE: I think, the important distinction there is that, before the advent of mutual funds or ETFs, this strategy was a little bit harder to deploy, right? If you had individual stocks, as you mentioned, and you try to sell out of it, and you had to buy a different stock, it would be hard to achieve the same type of returns. Like, if you didn't want to change your investment strategy, but you still wanted to be invested, it was harder to do so. So what's changed the game? When did that shift happen? And why is it such a common practice now?

DANNY PRINCE: Yeah, right, I think two reasons why, now, you see the strategy being utilized more. To your point, if you built a portfolio in the past, if you go back decades before pooled vehicles, you generally had a few stocks. And that was your portfolio.

Financial advisors usually had high-conviction stocks. And if you sold out of that stock, and you have to be out of the position for 30 days to realize this loss, that stock might have moved on you. And if you bought a different stock, it had different risks. It had different return profiles. You would have missed out.

That's how portfolios were managed. You held a few single stocks that didn't make a lot of sense, because you would effectively change your strategy to take advantage of those lost tax offsets. We're calling them tax offsets, remember, right?

But today, with pooled vehicles, money's being managed differently over the last couple of decades, than the prior few. And that is, it's thinking about asset allocation. It's thinking about stocks, versus bonds and mix, not one stock versus another stock.

And because of this, you have pooled vehicles where you can find similar exposure, but not substantially identical, which is part of the rules for this strategy. You can't buy something substantially identical. So, really, ETFs have become a preferred tool for this. The ease, the transparency, the low cost, the tradeability has really made this strategy more accessible.

And it's not just stocks or equities. This is something you can do in bonds and commodity. You could do this across the portfolio today, easily, with ETFs.

DENNIS LEE: Right, so that 30 day period was important, because, if you sold it, you had to hold your breath, and hope that the stock didn't rally, and that you miss out on those returns. We heard from Mark Peterson that a lot of the negative trading days are often followed, or very closely behind, follow positive trading days. And so, getting right back in is one really key point there.

We've heard this opportunity to tax loss harvest, it seems like it's a strategy that we've been told, we should be looking for opportunities every year. And, maybe, in other years, outside of 2020, it's been hard to do this, because not many people have had unrealized gains over the last 12 or 13 year bear market. We hear a lot about this being a generational opportunity to harvest losses. Can you walk through why that is and why it's so important, particularly this year?

DANNY PRINCE: Yeah, typically, you see this strategy more with stocks and equities because of the volatility you're more likely to experience in the stock market. But what makes this a generational opportunity is, most investors have been building stocks versus bonds portfolios. So how much do you have in bonds, versus stocks?

And we call that asset allocation. And, generally speaking, the more conservative you are, the more bonds you hold. That's how portfolios are constructed.

Well, this happens to be one of those unique years. And we haven't seen this since the '20s-- the 1920s, I should say now-- where stocks and bonds are both down at this magnitude, right? What's been impacting the stock market, usually. Volatility helps the bond market. But this is the year where the bond market volatility is creating stock market volatility.

By that, I mean, interest rates have risen this year. And that's caused bonds to go down. It's also caused equity market volatility.

So the generational opportunity means, essentially, you can look across your whole portfolio. And you can see the opportunity to tax lost harvest throughout your entire portfolio, where, normally, it's more focused on the equity side. So it's that.

It's also the magnitude. We're sitting here at double digit declines in the bond market. We're sitting here with over 20% losses in the broad US equity market.

So it's also the depth of the drawdown that we're seeing that creates this opportunity. The more losses you have, the more tax offsets you can bank. So this is why we're calling it the generational opportunity.

And, look, let's be honest. Markets haven't been delivering performance for clients this year for investors. And this is the opportunity this year, all right? Markets are providing a lot of headwinds.

But here's a tailwind to help position a portfolio for the future. These tax offsets can be kept in perpetuity. You can use them each year to offset ordinary income, if there's not gains to offset. So from a tax perspective, this is an asset worth unlocking.

And, really, I've been telling financial advisors that a bird in the hand is worth more than one bird in the bush. And that's what this opportunity is. You take advantage now while you can and, especially, before year end and while markets are down.

But, again, to your point, you stay invested. This isn't about shifting and getting out of the market. This is about taking advantage of certain tax dynamics for taxable investors for their taxable account.

DENNIS LEE: Thanks, Danny. Maybe the last question for you, there's a temptation to hear all this and say, even if we're renaming it tax offsets, versus tax loss harvesting, it doesn't seem like a happy topic for us to be discussing, taking a loss. What would-- how do we internalize this so that doesn't feel so bad, because I feel like the temptation is to do nothing and ignore it? What would happen if I did nothing over the next 18 months? Would that be so bad?

DANNY PRINCE: Well, it depends on how you approach taxes. For me, in my personal pursuit of financial outcomes, I like to think, it's not what's in my account on January 1st. It's really what's in my account mid-April. And for me, being able to quantify and see the losses and see the gains that I'm offsetting helps understand the value that I'm driving in my portfolio.

The challenge that you just spoke to is, we do all of this activity. And it doesn't really hit our brokerage statement as much. It hits our 1099. And that's where you see the value. And that's hard to see.

Taxes get jumbled with everything, right? You and I both have kids. And we know how messy our tax forms have gotten. And I've got California taxes to contend with and houses. And tax forms are ugly. And it's hard to see.

But, really, if you didn't do this, and, let's say, markets rebounded, and you rebalanced your portfolio, and you had gains in the future, those gains could have been offset with losses that were built today. So it's not going to help me buy more Christmas presents this year. But as it feeds through my taxes and future states, and offsetting ordinary income each year-- remember that component-- more on the account after we consider taxes.

DENNIS LEE: Yeah, that's the hard thing, because we-- even I tend to look at the number in the brokerage account and how much up or down it is, versus how much less I paid in taxes and calculating that number, versus how much was in my brokerage account. And so, behaviorally, that's just the challenge to say, this makes sense. This will benefit me.

But to actually act on it, talk to a financial advisor to implement the strategy is another thing. So I appreciate you illustrating that for us. Well, thank you, Danny for joining the show. I appreciate your time and happy offsetting season.

DANNY PRINCE: That's right. Thanks, Dennis. Have a great day. All right, see you, Danny.

DENNIS LEE: OK, so onto our last segment, what should I do? Most often than not, markets are a long game. And staying calm amid the storm is your best bet. It's certainly been a stormy year.

But still, we often hear, yeah, yeah, but really, what should I do? So we'll try to take everything we've heard today and try to answer that question through Carolyn Barnett, Head of Market and Portfolio Insights at BlackRock. So Carolyn, thank you for joining us. And thank you for helping us answer the question, what should I do? What should I do as an investor in today's environment?

CAROLYN BARNETTE: Absolutely and Thank you, Dennis, happy to be here. The first thing you should be doing, as an investor in this market, is trying to make lemonade out of lemons. It-- we've had a really tough year this year, as everybody listening to this probably knows.

We've got only 3% of mutual funds and ETFs that are actually positive on the year, year to date, which is an extra, crazy statistic, if you consider, there's about 28,000 mutual fund and ETF tickers out there. So only 3% are positive year to date, which means, pretty much all of us are down, unless you started the year with a truly absurd portfolio of energy stocks, Latin American stocks, and utility stocks, so really, really rough year.

What you can do about it is, there is actually an opportunity here to tax loss harvest. And it's absolutely critical. We don't have a lot of opportunities like this. Equities, certainly, bounce around enough.

But bonds don't tend to. And bonds are down 15% year to date. And so, you should look at your portfolio, see which funds or holdings you have that are down on the year, and harvest those losses. At the least, you can swap them into other similar funds, maintain the exact same exposure, and just harvest those losses, either net them against capital gains you've realize elsewhere, or net them against your income coming from other sources. But what you should really be doing is using them, using those losses as an opportunity to reshape your portfolio.

There are very few taxable investors who have the exact portfolio that they want. We all get stuck in positions that were once interesting, and then we got stuck in because we bought them at a low-cost basis and got stuck with those gains. Well, you now have losses that are available to adjust the rest of your portfolio.

And so, on the one hand, you can look at those positions and just screen out all of the funds or all of the positions that you don't like anymore, where the investment thesis doesn't make sense to you, where the allocation doesn't fit for where you are in life. The other thing that you can do is take into account that we are now in a whole new world, when it comes to investing.

For the last decades, we've been in this growth-led market where tech has kept coming up. Growth has been the place you've wanted to be. Value has not done as well. Defensive equities have not done as well.

As we've experienced this year, that is shifting with interest rates rising. That makes it a lot more challenging for growth stocks to deliver on that growth. It's gotten a lot more expensive to buy future growth.

And so, now is a really good time to, one, trim back some of those higher octane positions. We don't think markets are going to get any less volatile any time soon. And so, you can shift out of those higher octane positions into more defensive equities, like high quality dividend payers, minimum volatility stocks, things of the like.

The other thing that you can do is, really, step back and revisit the asset allocation you have in your portfolio. And by that, I mean, how much of your portfolio is allocated to stocks, versus bonds, because, on the one hand, stocks tend to be more volatile than bonds? They've also tended to deliver higher returns than bonds over time.

But what we've seen in professional investors over the past few years is this trend towards leaning into more volatile portfolios, riskier assets than they've had in the past, because we've had this unique situation where fixed income or bonds have not yielded a lot. Their income has been low. Their expected returns have been low.

And so, to make up for that, where, a year ago, fixed income was only giving you, maybe, 1%, maybe, 2% if you were lucky in returns. The other benefit of what's been happening in markets is fixed-income yields have gone from 1% up to 3%, 3.5 4%. You can now get a really attractive yield on those higher quality, shorter duration parts of the bond market.

So what that means for you and your portfolio is that it's possible, if all you're trying to do is generate a 5% return on your portfolio, you can do that in a much lower risk way than you have in the past. You don't have to have that same higher allocation to the more volatile stocks. You can increase your allocation to those higher quality, less volatile bonds.

So if we were to step back from all of that, what do you do? Piece one, make sure you've tax loss harvested in your portfolio. You've got until the end of the year to do it for 2022.

So look through your portfolio for those opportunities, those parts that are down for the year. Sell out of them. Harvest those losses. And then use them to make your portfolio better, bring down volatility.

If you feel like you've got that right asset allocation, just do it within your stocks. Cycle out of some of those higher octane stock positions into more defensive, higher quality stock positions. If you find that you actually don't need to take as much risk as you've been taking, if your return target has stayed the same, take advantage of the shifting market regime. Lean more into those high quality bonds that can now, really, earn their weight in the portfolio to drive the returns that you need.

DENNIS LEE: Super helpful, Carolyn. In the current market environment, there's a sense of helplessness. As we've seen, markets have performed so poorly, both from stocks and bonds.

We now know, it's not just me who's having a hard time. Of course, everyone's having a hard time with their portfolio. There's this feeling of helplessness, if there's nothing really to do.

But I'm hearing you say, there are certainly things we can do. And the first is to harvest those losses, gain those tax benefits. But, second, this is an opportunity to make sure that your portfolio is working as hard for you as possible, so keeping that long term perspective.

But there-- the opportunity that tax loss harvesting gives us is to redesign portfolios exactly the way that we'd want to, so selling out of those, maybe, riskier tech stock positions, buying into bonds, which, over the last few years, almost felt like there was no reason to own them. Now there's a reason to own them, because they're less risky and can yield, as you were saying, potentially, up to 3%, 3.5% And so, it feels terrible. But what I'm hearing you say is that, right now, indeed, those lemons can be turned into lemonade by those two strategies.

[00:38:12.81] CAROLYN BARNETT: Yeah, absolutely, bonds are back, as you've said. We've loved to hate bonds over the last few years. And this is a great opportunity.

It-- don't let yourself get scared away from bond investing. This is a year where past performance, particularly in bonds, really, doesn't predict future results. As interest rates have gone up, bond prices have gone down. And we are now at a point where, one, yields aren't as low as they were.

So one of the reasons that it has been so painful to be a bond investor this year is, we started at a really low yield. And so, even a small amount of rise in interest rates was enough to eat through that yield, and have you lose money on your bonds, and lose money on your bonds in a really big way. When you get to a higher starting place, instead of having a 1% yield cushion, now you've got a three 3%, 3.5%, 4% yield cushion. That gives you a lot more space.

So even if we do continue to see interest rates rise-- and we're at the point where the Fed has really forecasted what it's planning on doing. We think that, at least on the front end of the curve, Fed moves are pretty much priced in.

There's not as much that can go wrong in the bond space. And if it does go wrong, if interest rates rise more than we expect, you have more of a yield cushion to cushion that fall.

DENNIS LEE: Would you be happy with a 5% return on your portfolio? We're hearing inflation is up around 8% right now. Are you happy with a 5% return on a portfolio?

CAROLYN BARNETTE: Well, tech stocks are down 37% year to date. The S&P 500 is down about 24% year to date. So yeah, I'd be pretty happy with a 5% return on my portfolio.

Longer term, it depends on what you need. It depends on how you're spending needs might change over time. It depends on how much you're drawing from your portfolio.

But if 5% is enough for you to live off of and the particular things that you spend money on, whether that's housing, whether that's food, clothing, leisure, if your expenses aren't moving by 8%, then, it's OK. But everybody's return target is going to be different. And you should work with your financial advisor to figure out what the right return target is for you.

DENNIS LEE: Yeah, I think that's very wise, because I think, when people think about investing, and they look at inflation, they look at how markets have performed so poorly this year, there's a sense of how-- why invest at all? But I think, these are the important years that need to be weathered, that need to be thought carefully and thought through carefully. And stay invested in the strategies that you mention. And do things like tax loss harvest, because, as we've seen, we had a 13 year bull market run, right?

We had 13 years of growth that nobody expected. And so, markets will behave this way. And in the years that we don't experience better than expected returns, these are the things we need to do to mitigate those losses and to make the most of it.

CAROLYN BARNETTE: Absolutely.

DENNIS LEE: OK, well, Carolyn, thank you. Thank you for being on the show. As always, really helps to have that question answered, what should I do? And would encourage everyone listening to talk to their financial advisor about how to execute that. But thanks again for coming on the show, Carolyn.

CAROLYN BARNETT: Absolutely, thank you.

DENNIS LEE: And that brings us to our closing bell. That was the sound of a snickers bar left over from Halloween, tapping on my office window. Once again, we don’t have an official sound effect for our closing bell, but I’m trying to build intrigue. You’ll have to tune in to future episodes to find out what random item I choose to clang next.

One quick note before we close. Talk to your financial advisor, if you have one. There is so much educational content out there, and some of it is great, some of it not so much. But achieving your financial goals is often a very individual journey, and at BlackRock we believe those goals are best met with the help and advice of a financial professional. All of the topics we’ve covered – including staying invested, tax loss offsetting, considering defensive equities – all of these ideas are recommendations in a vacuum if you aren’t carefully considering your own long-term goals in partnership with a professional.

And that’s all the time we have for today. This has been Dennis Lee, market insights lead for U.S. Wealth at BlackRock. We'll see you next time on BlackRock's In The Know Podcast.

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In The Know Podcast: Are we in a recession? 

October 2022 

DENNIS LEE: Markets, portfolios and investments can be easy to misunderstand. So on the show today, we'll bring you a few minutes from each of BlackRock's top thought leaders to help explain what's happening in markets in simpler terms. Here's what have on the agenda. First, the news in context. How would our top investment strategist describe what's happening in markets to her friends? 

Second: Interesting numbers. This will help bring out the nerd in all of us to put a few facts and figures in your back pocket as it relates to markets. And then last. What should I do? Most often than not, markets are a long game and staying calm amid the storm is your best bet. But still, we often hear … Yeah, yeah. But really, what should I do? So we'll take everything we've heard and try to answer that question for you as an investor. And that's it. Hopefully, by the end, you'll be speaking the language of markets just a little bit more fluently. Welcome to BlackRock's In The Know Podcast.  

If you follow financial news on any given day, you may have a skewed perception on what's going on. News, by its nature, is required to find the story in daily moves. But as we know, as an investor, it's best to zoom out to fully understand what's happening. So joining us for this first section, The News In Context, we have Gargi Chaudhuri, Head of iShares Investment Strategy. You may have seen Gargi in places like CNBC, Bloomberg and other shows.

And essentially I've asked her to be on the show today to help explain what's happening in markets in simple terms. It's a little bit like asking Albert Einstein himself to explain the theory of relativity. But in any case, thank you, Gargi for being on the show.  

GARGI CHAUDHURI: Dennis, it's wonderful to be here. I will try to do my best Albert Einstein impersonation. So today's big question, and it's a question that we've been getting over several months is …Are we in a recession? So Gargi how would you answer that? 

Sure. So I would start off by saying we are not in a recession. And then I would love to go into why we think that we're not in a recession. And what we're looking at to understand when and if we do fall into one. So what is a recession? Broadly, a recession is defined as a widespread downturn in economic activity. 

And I think the word widespread is really important there. And, you know, recently these questions around the U.S. recession have come up over and over again. And we had written an article about “Is the U.S. in a recession,” which is available on iShares.com. And that happened because there were two negative quarters of U.S. GDP. 

However, going back to the definition, it's a widespread downturn. And there's so many areas of the U.S. economy where we're not seeing a downturn at all. So, number one, the labor market, for example, is really strong people are still looking for workers. People are actually finding it hard to find the number of workers they need. And the unemployment rate is at 50 year lows. 

It's only a three and a half percent. So that is a big reason why we think we are not in a recession. Having said that, having said that, around the labor market remaining strong and about 11 million jobs being open in the economy, I will say that there are some areas where we have seen a little bit of weakening right. 

So if you have tried to take out a mortgage recently, you know that interest rates have moved higher. And of course, that has had a severe dampening effect on the housing market. So that is an area that's slowed down. I would also say that manufacturing sectors have shown a little bit of weakness. So there are pockets of weakness in the U.S. economy, but overall, it is not broad enough and wide enough for us to call it a widespread recession or a widespread downturn in activity yet. 

DENNIS LEE: So maybe the follow up question there, is there a big difference between what we're experiencing today and let's say it was classified as a real recession? What would be the big difference in your mind of whether we're in a recession or not? 

GARGI CHAUDHURI: So I think it does matter. Right. So to the extent that if you are laid off from your job because of a recession, because companies are tightening their belts, so to speak, because they're paying higher prices for everything from import of goods to labor. As we all know, inflation has risen to levels, again, not seen since the eighties If companies are laying off people and those people in turn don't get jobs, that obviously has very many cascading effects on many sectors of the economy. 

Right now, though, because of the labor market remaining as strong as it is, people, even if they do get laid off, are able to find other jobs and sometimes at a higher wages So the consumer in the U.S. economy, the consumer is a big part of what drives the U.S. economy, but consumers still feeling pretty OK for the time being. 

Now, if interest rates continue to move higher or if gas prices continue to move higher, that may not be the case. But at today's levels, that certainly is the case. 

DENNIS LEE: Thanks. That's really helpful to to put that into context. I guess maybe a follow up question to that. We're seeing a lot of stock market volatility. So this summer we've seen a little bit of a rally, but we know that stocks continue to end lower on certain days and we know that the Fed may continue to raise rates. What does this all mean for investors? What's what's important and what should they be focused on? 

GARGI CHAUDHURI: I think what investors should keep in mind is that they need to remain invested. So this is probably the worst time to cash out and move to cash. If you were able to do that in the end of December. Congratulations. That's amazing. But if you didn't do that in the end of December of 2021, I would say this is not the time to move to cash. In fact, this is the time that you should perhaps rotate around to different areas of the market that will provide you a little bit more resiliency than others. You know, we're telling investors to perhaps move to minimum volatility sectors of the market where you are likely to have lower volatility and thus allowing yourself to remain invested within the equity markets. But I'll also say that this is another opportunity to add or at least start adding to fixed income. Again, fixed income has traditionally been that part of your portfolio that does well when equities do not. 

Unfortunately, that was not the case in 2022. Both fixed income and equities did poorly. But what happened as a result of the Federal Reserve raising interest rates was that interest rates now have gotten to a point where you can earn a significant amount of income in your fixed income portfolio. So I think that there are opportunities within the market that investors should gravitate towards instead of fleeing the market altogether and moving to cash. 

DENNIS LEE: Yeah. It seems like anytime the Fed announces any new news, there is a bit of volatility. But staying the course through that news is likely important. Let's take your investing commentator hat off for a second. If you were at a cocktail party or any sort of social function, how would you tell someone who doesn't know at all what's going on, what's happening in markets? What's the story that you would tell them? 

GARGI CHAUDHURI: A great question, because when I am at cocktail parties, this is a question that often I would tell them. And look, this is something that people are feeling. I would tell them that the idea that they're paying more for their groceries, they're paying more for bananas, eggs, avocado, you name it, they're paying more for gas prices. They're paying more in rent for their apartment, all of that is, you know, is a result of inflation. 

I would explain that concept of inflation to them. And I would also explain that, you know, this concept of inflation is what the Fed, the Federal Reserve is trying to bring down. Now, hopefully, they will be very successful at it. They have historically been able to be successful at controlling inflation. And in the near term, there will be a little bit of pain in the economy as a result of the Fed needing to do some really difficult things in order to bring inflation back. 

And those difficult things that they need to do are to raise interest rates, which means that we might have to pay an even higher price on our you know, we have student loans that reset where we have a mortgage that resets, or if we're being an interest rate on a credit card or getting a new auto loan, those prices can go up. 

But in the longer term, it'll actually be better because inflation will be contained. So I would actually prepare my friends at a cocktail party to sort of not focus on the next 12 weeks or even the next 12 months, but really the next 12 years, because after all, we're not investing for the for the short term. Hopefully, we're all investors that are looking at, you know, the longer term and playing for the longer term benefits. Of owning these assets, equities, fixed income, real assets, commodities, infrastructure, et cetera, in a diversified way in our portfolio. 

DENNIS LEE: Thanks, Gargi. Super helpful. Thank you so much for joining us today on the show and I hope to have you next time. And thank you for explaining the news and context. 

GARGI CHAUDHURI: Thank you, Dennis, for having me. That was fun. 

DENNIS LEE: It's now time for a segment we call Interesting Numbers. It's the most interesting segment with the most boring name. We're joined by Mark Peterson, Director of Investment Strategy and Education, who publishes the Popular Student of the Market piece, which covers historical insights each month. I highly recommend checking that out on BlackRock.com. Today I wanted to ask Mark about recessions…in the past.  

Both stocks and bonds have been down this year, as we mentioned. But how rare is that exactly? So, Mark, thank you for joining us. Talk to us about this year. How unique has it been? 

MARK PETERSON: Yeah, absolutely. Dennis, thanks for having me. Clearly, both stocks and bonds being down for the year is very unusual. If you look back historically, going back a little bit more than 95 years that we have good data, it's only happened twice for an entire calendar year, 1931 in 1969 for the two periods where both stocks and bonds lost money. 

So very rare to have that happen. You think about it twice over 95 plus years. So not unprecedented but pretty rare historically. And I think the big differentiator this year is just the amount the bonds are down in general. Right. We certainly seen stock market volatility over the years right. Some challenging years. But the fact that bonds, right, are on pace for their worst year ever by a pretty good margin I think is really what sticks out like a sore thumb. 

You look at those other periods where stocks and bonds lost money. Bonds were only down slightly during those calendar year. So it kind of eased a little bit of the pain in those periods where it's a little bit more difficult in this stretch because bonds are down as much as they are. 

DENNIS LEE: Yeah, it does explain why this year is felt so different I think we've somehow gotten used to stock volatility and the pandemic showed that and we saw a rebound there in 2020. But having bonds down this year has been particularly harrowing. We're also hearing talk of a recession, whether we're in one now, whether we'll soon see one. 

But I think people maybe misunderstand what recessions are and how long they last. And your publication has a really neat chart that shows the average length of recession according to history. So if we were to see, let's say not a worst case but a bad case scenario where we do see recession, how long do those typically last? 

MARK PETERSON: 

Yeah, if you look back again over that similar stretch of time that I mentioned, generally recessions lasts a little bit more than a year, but they can come in all different shapes and sizes.  

The Great Depression was closer to four years and you have periods as short as two months that we had back in 2020 in March and April of 2020 when the pandemic was setting in. I think it's also good to look at the length of the expansions economically. 

So the good economic periods, they tend generally to last a little bit more than five years. So that's really the trade off. You get five good years of the economy for a little bit more than a year of recession on average. Generally the expansions have started to last a little bit longer historically as the economy evolves. But again, they do come in all different shapes and sizes. 

I think one of the interesting stretches here is we had the longest economic expansion ever from 2009 to 2020. So roughly that 11-year stretch you had where the economy did very well, it wasn't the best ever economy, fastest growth. But it did last the longest to the shortest recession ever that March and April of 2020 when the pandemic was setting in. 

But generally five years for an expansion, a little bit more than five years to a little bit more than one year of recession is what we've seen historically. 

DENNIS LEE: Those are the key numbers and I'm hearing five and one to five for an expansion and on average one for recessions. People think of markets sometimes as two steps forward, one step back, but it's actually on average in terms of years can be five steps forward and one step back. So that's that's really interesting perspective. I guess maybe the worry is even in one year, let's say our time horizon is fairly short. 

How do stocks typically perform during those recessions? So let's say it's only a year long, but it could be super painful. What do the numbers say in terms of how markets perform during those time periods? 

MARK PETERSON: Yeah, no surprise, right? The market generally doesn't do real well in a recession. Returns are pretty flat historically. If you look at it, you do have some that were negative, some that were positive right. For various reasons. The last three recessions that we've had, you've actually had negative performance during the technical recession. So if you look at the right tech bubble bursting in 2001, that recession stocks were down a little bit less than 1%. So it wasn't terrible, but they were down a lot more prior to the actual recession. But 2008-2009 was a difficult period. Stocks were down about 25% during that recession. And then again in 2020, even though it lasted two months, stocks were down a little bit more than 1%. So you can see again, a little bit of a different story for each period right sometimes you see the recession coming like you did in that tech bubble period. 

And sometimes you don't realize until you're really in the thick of it like we saw in 2008, 2009. And you saw stocks drop a lot more during the recession than prior to the official recession. And I think that's something to keep an eye on. Right, for this period, whether we have or whether we're in a recession or not, if that's the term. 

And I don't think that's really the key question going forward now. It's where we're headed right? Are we going to see a recession, a softer period in the economy due to the Federal Reserve aggressively raising short term interest rates? I think that's really where the market's focused now. 

DENNIS LEE: Well, one thing that stood out to me on some of your charts here is that during recessions on average since 1929 markets have been positive – we had a 1% average return. I know for many of those recessions we did see negative returns. But that was a bit shocking to me that even during recessions on average, you're still not losing money or historically haven't lost money. And that was surprising to me. How does that work? I mean, I guess there's been enough recessions with positive returns. Mark. 

MARK PETERSON: Yeah, I think when you look at the numbers, Dennis, some of the periods that where you did see really poor stock market performance. Right. Some of the big losses, those were in the significant recessions. Right. I think that's really the key, key for stock market performance is how bad is the recession going to be? Right. So if you go back to the Great Depression, right, you had some pretty dramatic losses during that recessionary period. 

You know, you fast forward again, I said 2008, 2009. You saw some pretty big numbers as well. But some of the other recessions in between. Right. Weren't nearly as bad. And those tend to the market does seem to weather those. And you do actually have some positive performance in some of those periods. Where I think the you can see the other side, right, where the recession isn't real deep. It's not nearly as dramatic as some of the most historically noteworthy periods and the market seems to weather those pretty well. 

DENNIS LEE: Yeah. It may also be an indicator that markets tend to rally before the recessions are over. Market sentiment, if it's improving before the actual recession is done, investors may be more optimistic. 

MARK PETERSON: Yeah, I think that's a great point, right? Often times the recession is a pretty lagging indicator, right? When we actually see the damage to the economy where the stock market tries to look forward. And I think it's also good to keep in mind what happened to the market prior to some of these periods. Right. If you had a big run up in stocks prior to these periods where valuations are really high for stocks, right. 

You had a really good stretch for stocks. Often times that can be a challenge, right? Because you're just starting from a really high level on stock prices and all of a sudden you run into a bad economy like you did in 2008-2009. That can lead to some bigger losses as well. So I think you're right. It's you got to keep the full picture in view. 

Right. It's not always purely about the recession. It's also about where you're starting from. Right. How high are valuations, we're where we're at now. And I think that's one thing that we have going for us now, right? Is that we've already had the market correct to some degree. Right, that had bear market territory. So even if we have a recession, we're not starting from sky high levels on stock prices or valuations. 

DENNIS LEE: Well, Mark, super interesting. Thank you for giving us some numbers to chew on. Certainly interesting numbers here: to summarize a few of the things that stood out to me. Stocks and bonds down this year. It's only the third time in history that's happened in the US. The average length of a recession tends to be just over a year, which is maybe shorter than most people think. And then performance during recessions. Of course, some of those recessions deeply negative and the Great Depression and the Great Recession. But on average, surprisingly, 1% returns during those recession recessionary periods over the last hundred years. So thank you, Mark, for joining us as always. And if you'd like to learn more, do visit Student of The Market at BlackRock.com for Mark's monthly publication. Super interesting insights for you to digest there. And Mark, thank you for being on the show.  

MARK PETERSON: Thanks Dennis. 

DENNIS LEE: OK, so we'll wrap up the podcast with our last segment. What should I Do? Gargi says we're not in a recession, but that we may see volatility. So should we be preparing for recession? Should we ignore it and stay the course? Mark Peterson also shared with us that recessions don't last all that long. So joining us for this discussion, we have Carolyn Barnette, portfolio strategist with the BlackRock Portfolio Consulting Team. She and her team consult on thousands of portfolios across the U.S. to help investors reach their goals. And so, Carolyn, thank you so much. It's a big question. It's a simple one. But often when we think about market news and what's happening around the world, we often think about portfolios and what should I do? Is that even the right question? What should an investor do in this environment? 

CAROLYN BARNETTE: Certainly the most important question to be asking as a true consultant, I always like to answer a question with a question. So when you're asking yourself, well, what should I do right now? The second question to ask is, has anything changed for you? Because if the answer is no, if nothing has changed for you in terms of what kind of returns you need from your portfolio, what amount of risk you're willing to take, then the answer is nothing. 

You shouldn't do anything right now because investors, both professional and amateur alike, have tended to be really bad at timing market. You know, we as a people just tend to buy high and sell low, which is the exact opposite of what anybody wants to do. And especially in volatile markets moving as much as these markets have been moving, I'd recommend against trying to time them but that's the answer if nothing has changed for you.  

DENNIS LEE: Want to clarify, if nothing has changed, you mean nothing in your life circumstance. It's not just about how you feel like, because I certainly feel nervous about markets. This is not about my feelings towards markets. This is like if I've lost my job or I have a new dream to buy a second home or something like that. Right. This is like life situations have changed. Is that correct? 

CAROLYN BARNETTE: That's exactly right. Thank you. It's has anything in your life changed? And if something has changed in your life and by the way, there's plenty going on in the world right now and plenty to drive that change, maybe you do need to make a change to the portfolio. And the most portfolio specific ways your life may have changed is things have gotten more expensive with inflation. 

And so if you're finding your portfolio is not delivering high enough returns or is not delivering enough income for you to meet what is now likely to be a higher spending need, you might need to revisit the portfolio to drive higher returns. If you find that, you know, fixed income yields have risen by quite a bit this year, we started the year under 1%. 

We're now sitting over 3% on the agg. If you find that your portfolio is now delivering more in the way of returns than you actually need and you're getting uncomfortable with this risk environment, it might make sense to to start to reduce the risk in the portfolio, given that you can now get more of a return out of your bonds than you could at the start of the year. 

DENNIS LEE: OK, so where are we going for that second point there, Carolyn? Let's say if things haven't changed, is there still something investors should be thinking about for the long term? 

CAROLYN: Yeah, I mean, right now is not the time to reach for returns. We had been in an environment where we really had to work with bonds yielding under 1%. We needed to reach into riskier parts of the market in order to drive what had been a more reasonable return for investors with volatility higher than it has been and yields higher as well. 

You don't need to reach for that that same amount of risk in the portfolio. And so even if nothing's changed, I'd encourage you to look at the portfolio and make sure that there's nothing intended in there that you don't really need. And the other really important thing for now is it's a great time to try to make lemonade out of lemons, because as we all know, as we've all felt, pretty much everything in the world is down, stocks are down, bonds are down, which creates a really compelling case for tax loss harvesting in the portfolio which is where you sell a position at a loss. 

And you can then use those loss, that loss to either offset gains taken in other parts of the portfolio or even a small portion of realized income. So you can realize losses in funds that are down or positions that are down. And then you either have the choice to replace those positions if you still really like it as an allocation with funds or allocations that have a similar mandate, or you can use it as an opportunity to clean up the portfolio. 

So realize a loss in the portfolio in a part of the world that you don't really like, you don't have high conviction in as an investment and then reinvest those dollars in a place that you do like loss. So realizing that loss. 

DENNIS LEE: We hear a lot of investors that were previously heavily overweight, the FAANG stocks that were doing so well for us over the last few years. They have a lot of concentrated risk in that area. And so being able to harvest some of those losses and buy back into still not necessarily taking their portfolio out of tech, but broadening out their tech exposures and reinvesting has been something we've been seeing a lot of advisors doing it's funny because you mentioned, well, we're not trying to buy high and sell low, but with tax harvesting, we kind of are and it feels uncomfortable to do so. 

But I think as you mentioned and as we've heard from Gargi and Mark, it seems like it is a generational opportunity to not only harvest losses from stocks but from the bond portfolio and then reinvest back into those bonds at higher yields as you mentioned, it seems like if we if as an investor, if you haven't done already and you have a long term horizon it's certainly something that is a must in terms of portfolio hygiene. 

CAROLYN BARNETTE: Absolutely. I could not agree more if you haven't yet looked at your portfolio for tax loss harvesting opportunities this year, you absolutely should. And it is talking to advisors last year, they were really overweight growth stocks, all of the things that had done really well up until this year. And it's a great time to trim those down to closer to benchmark rate and balance them out with some of those higher quality, more defensive names. 

DENNIS LEE:  

OK, so let me try to summarize what should I do in just a few seconds here and tell me if I've gone astray? The first is to stay calm and not overreact to what's happening in markets. We often are not great active managers as investors, second harvest losses both from stocks and bonds and reinvest back into those similar strategies to capture some of those losses so that we can reduce our tax impact down the road. 

And then lastly, if life circumstances have changed and you do want to reduce some risk, as you mentioned, bond yields have come up. So your bond portfolio should be working harder for you than it has in the past, which means your stock portfolio which is often more risky, doesn't have to do as much. And so, you know, speak to your financial advisor about your risk tolerance and your long term goals, whether they've changed to see if those changes should be made. How did I do. Does that sound correct? 

CAROLYN BARNETTE: That's perfect. You probably said it even better than I did. So thank you. 

DENNIS LEE: OK, well, thank you. Thank you for the kind compliment. But I appreciate your expertise. And thank you for bringing all that you do to this conversation, because I know you're speaking with advisors and their end-investors every day, thousands of them across the country. So appreciate your time on the show. 

CAROLYN BARNETTE: Thank you for having me. 

DENNIS LEE: And that brings us to our closing bell. That was the sound of a pen pinging a mug on my desk. We clearly don’t have an official sound effect for that yet. But, I guess you'll have to tune in to future episodes to find out what random item I choose to clang next.  

One quick note before we close. You may have heard about COLA in the news. It’s the cost of living adjustment made to Social Security. It’s meant to counteract the effects of rising prices in the economy, also known as inflation. COLAs are typically equal to the percentage increase in CPI, consumer price index, for a specific period.  

Last year, COLA was 5.9%, we expect that to be even higher in 2023. It should be announced mid October. The key here is there’s nothing much to do. If you’ve already filed for Social Security, you will receive the COLA adjustment to your January benefits check. You also shouldn’t base your decision to start filing as it will be baked in either way. 

So talk to your financial advisor about that. It’s not really a good news or bad news situation, it’s simple news. But you don’t have to act on it to get it, and it will be baked in either way.   

That’s all the time we have for today. 

This has been Dennis Lee, head of market insights for U.S. Wealth at BlackRock. We'll see you next time on BlackRock's In The Know Podcast. 

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