Assuming we don’t fall into recession during the next four months, July 2019 will mark a new record for the longest US economic expansion since the National Bureau of Economic Research started tracking economic cycles way back in the 1850s. Throughout this expansion, holding assets other than stocks has come at a steeper cost in terms of underperformance. But while investors may be feeling frustrated by the results of their diversification strategies, I believe it’s important to examine what can happen in the years following an expansion. History tells us that this is when the benefits of diversification have been most apparent.
What did we learn from the last longest expansion?
The current record for the longest expansion belongs to the 10-year period that began in April 1991 and ended March 31, 2001. When looking at this “1990s expansion” compared to today’s, we see that the penalty for owning assets outside the S&P 500 Index has been more severe this cycle as compared to the last.
The table below provides a comparison of major asset classes during both expansions. It is interesting to note that US and international stocks (the S&P 500 and MSCI EAFE indexes) have provided similar absolute and relative returns. What is even more interesting is the difference in commodity returns as the Bloomberg Commodity Index has delivered negative returns during this expansion. Bond results have also been notably lower, and the penalty for holding cash has been made more severe by the Federal Reserve’s zero interest rate policy.
Source: Datstream as of Feb. 28, 2019
For investors feeling frustrated with diversification, the major point to emphasize is that we have been here before. I recall that by the end of the 1990s, many pundits were declaring the death of diversification, and the mantra around bonds was that they were only good for getting out of jail. But the next decade witnessed a reversal in these trends as bonds and commodities outperformed US stocks during the first decade of the 2000s, as shown below.