Going Beyond the Surface

Chart of the Week for Jan 12-18, 2001

2000 was a tough year. It seemed there was nowhere to hide to avoid the slumping performance that cut across market sectors and capitalization. Some investors saw their portfolios sharply devalued over the first three quarters, and kept hoping for a fourth quarter rally that did not materialize. In fact, it seems that the equity markets’ performance in the fourth quarter gave a coup de grace to several major sectors.

Digging deeper into the markets’ dismal performance last year, some revealing facts emerge. The fourth quarter’s performance, while ensuring that already embattled sectors finished the year deep in negative territory, did not wash away gains made by strong-performing sectors. Looking at the chart, all the sectors that finished the year tumbling were already floundering throughout the first three quarters. During the same period the markets rescued some sectors such as consumer staples and transportation, which recouped their losses in the fourth quarter to end the year in positive territory. Also, sectors that were doing well (prior to the fourth quarter) such as utilities, financials, and health care got a boost and made further gains in the last quarter.

However, we should always keep in mind that because a sector does not perform well in a given quarter doesn’t mean that all or the majority of stocks in that sector have tumbled.

Though last year’s last quarter was not as rewarding as investors had wished, it was not as devastating as some analysts assert. Overall, the equity market did last year only what it has been doing since its inception: fluctuate. However, the sharpness of the fluctuations stressed the need for a deeper understanding of the concept of diversification. Indeed, diversification is no longer (should no longer be) solely defined in terms of a proper asset allocation between stocks and fixed income securities and a good spread across market capitalization (small-, mid-, and large-cap). A good spread across sectors (utilities, financials, technology and so on) within these market segments, and intelligent stock picking within the chosen sectors are essential principles to follow in order to capture value and reap high returns in these volatile times. This last aspect of diversification is of crucial importance: it’s not enough to be in a sector that is doing well, nor is it wise to avoid a sector just because, overall, that sector is not doing well. The distinction should not be drawn along sector lines, but rather, along stock valuations.

This illustration was compiled by information from outside sources. These companies are not affiliated with ICMA-RC. This information is being provided for educational purposes and is not intended to be construed as or relied upon as investment advice. ICMA-RC does not offer specific tax or legal advice. Individuals are advised to consider any new investment strategies carefully prior to implementing.

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