After logging strong returns in 2017, global equity markets delivered negative returns in Euro terms in 2018. Common news stories in 2018 included reports on global economic growth, corporate earnings, record low unemployment in the US, the implementation of Brexit, US trade wars with China and other countries, and a flattening US Treasury yield curve. Global equity markets delivered positive returns through September, followed by a decline in the fourth quarter, resulting in a 0.4% return for the S&P 500 and –4.9% for the MSCI All Country World Index for the year.
The fourth quarter equity market decline has many investors wondering how equities may perform in the near term. Equity market declines of 10% have occurred numerous times in the past. The S&P 500 returned –12.1% in the fourth quarter while the MSCI All Country World Index returned –11.4%. After declines of 10% or more, equity returns over the subsequent 12 months have been on average positive 70% of the time in US markets and 72% of the time in other developed markets.
WORLD STOCK MARKET PERFORMANCE
MSCI ALL COUNTRY INDEX (IMI) WITH SELECTED HEADLINES FROM 2018
Past performance is not a guarantee of future results.
Source: MSCI, In EUR, net dividends. Index is not available for direct investment. Performance does not reflect the expenses associated with management of an actual portfolio.
The image highlights some of the year’s prominent headlines in the context of global stock market performance as measured by the MSCI All Country World Index (IMI). These headlines are not offered to explain market returns. Instead, they serve as a reminder that investors should view daily events from a long-term perspective and avoid making investment decisions based solely on the news.
Exhibit 2 shows the performance of markets subsequent to declines of 10%, 20%, and 30%. For each decline threshold, returns are shown for US large cap, non-US developed markets large cap, and emerging markets large cap stocks in the following 12-month period. While declines in equity markets may cause investor concern, the data provides evidence that markets generally have positive returns after a decline.
AVERAGE COMPOUND RETURNS FOR STOCKS IN A FOLLOWING 12-MONTH PERIOD
Past performance is not a guarantee of future results.
Declines are defined as points in time, measured monthly, when the market’s return since the prior market maximum has declined by at least 10%, 20% or 30%, depending on the cutoff. Declines after December 2017 are not included, but subsequent 12-month returns can include 2018 returns. Compound returns are computed for the 12 months after each decline observed and averaged across all declines for the cutoff, US Large Cap is the S&P 500 Index, from January 1926 through December 2018
The increased market volatility in the fourth quarter of 2018 underscores the importance of following an investment approach based on diversification and discipline rather than prediction and timing. For investors to successfully predict markets, they must forecast future events more accurately than all other market participants and predict how other market participants will react to their forecasted events.
There is little evidence suggesting that either of these objectives can be accomplished on a consistent basis. Instead of attempting to outguess market prices, investors should take comfort that market prices quickly incorporate relevant information and that information will be reflected in expected returns.
While we cannot control markets, we can control how we invest. As Dimensional’s Co-CEO Dave Butler likes to say, “Control what you can control.”
In 2018, the global economy continued to grow, with 44 of the 45 countries tracked by the Organisation for Economic Cooperation and Development (OECD) on pace to expand. Argentina was the only country expected to contract. While market participants may consider the economic outlook of a region, it is just one of many inputs that determine realised market performance.
Real GDP Growth by Region (%)
Source: BEA, Statistics Canada, Cabinet Office (Japan)
2018 MARKET PERSPECTIVE
Equity Market Highlights
Global equity markets, as measured by the MSCI All Country World Index, ended the year down –4.9%, with significant dispersion by country.
US equities generally outperformed other developed markets for the year, although they lagged other developed and emerging markets in the fourth quarter. The S&P 500 Index recorded a 0.4% total return for the year and –12.1% return in the fourth quarter.
Returns among other developed equity markets were nearly all negative. The MSCI World ex USA Index, which reflects non-US developed markets, was down
–9.8% for the year and –11.4% for the fourth quarter, and the MSCI Emerging Markets Index fell –10.3% for the year and –6.0% for the fourth quarter. US small cap stocks, as measured by the Russell 2000 Index, returned –6.5% for the year.
Impact of Global Diversification
While markets around the world generally had negative returns in the fourth quarter, the dispersion in their returns highlights the importance of global diversification during market declines. The MSCI All Country World Index (IMI) outpaced the MSCI Europe Index (IMI) by over 5% for the year (–5.6% versus –11.3%).
When considering individual countries, 41 out of 47 countries were down for the year. Using the MSCI All Country World Index (IMI) as a proxy, two countries posted positive returns among developed markets, and four managed a positive return among emerging markets. As is typically the case, country-level returns varied significantly. In developed markets, returns ranged from –20.3% in Belgium to 5.0% in New Zealand. In emerging markets, returns ranged from –38.4% in Turkey to 33.5% in Qatar—a spread of more than 70%. Large dispersion among country returns is common, with the average spread in emerging markets over the past 20 years of 92%. Without a reliable way to predict which country will deliver the highest returns, this large dispersion in returns between the best and worst performing countries again emphasises the importance of maintaining a diversified approach when investing globally.
To emphasise this point, Israel went from being the worst performer in developed markets in 2017 (–3.1%) to the second-best performer in 2018, returning 1.2%. Likewise, Qatar went from being the second worst performing emerging market country (–23.4%) in 2017 to being the best performer in 2018.
When considering investing globally, investors should remember that this helps provide valuable diversification benefits. For example, given the strong returns of US markets through September the US equity market was one of the stronger performing markets for the year, ranking seventh out of the 47 countries in the MSCI All Country World Index (IMI). However, it is worth noting that if we look at the past 20 years going back to 1999, US equity markets have only outperformed in 10 of those years—the same expected by chance.