As the year winds to a close, this is a good time to reflect and reassess many things, including your portfolio and investment strategy.
This year’s end is a particularly good time to revisit your portfolio, given the fact that the market has had a blowout year with the Nasdaq Composite up almost 42%, the S&P 500 gaining 23%, and the Dow Jones Industrial Average rising 12% year to date (YTD) as of Dec. 21.
Whatʻs in store for 2024? Is this the beginning of a bull market, or will stocks see a downturn next year? It is impossible to know for sure, but many experts say the economy will slow, interest rates will start to come down, and the markets will see more muted growth, especially in the first half of the year.
Looking ahead, I would not go as far as to say be prepared for the worst, because that might be too drastic, given the circumstances, but there are a few moves that can help you navigate potentially choppy waters.
Look for value
Since the market has surged so high over the past 12 months, many of the high-flyers have seen their valuations soar. This applies mainly to the technology sector, as the Nasdaq is up more than 40% YTD — and that is the average return. There are quite a few companies that have seen their stock prices rise 80%, 90% and into the triple digits.
A good way to tell if a stock price is fueled by speculation or real earnings and revenue growth is to look at its price-to-earnings (P/E) ratio. Growth stocks are going to have higher P/Es than value stocks, but if one of the high-flyers in your portfolio has a ratio that is well outside of its historical range, it is probably overpriced relative to its earnings and could come down if the market slows.
If the stock does not have positive earnings, you should be more cautious. Check the price-to-sales (P/S) ratio in that event to see if the price is in line with revenue growth and research if the company is progressing toward a net gain. It is not unusual for a startup or young company to record net losses as it invests in growth, but if the revenue is not there and it is not moving toward profitability, that could be a red flag.
On the other hand, stocks with lower-than-normal P/E ratios might be good values, in that the market has not recognized their earnings for whatever reason. When the economy slows or goes into a recession, value stocks typically outperform growth coming out of the downturn, so looking for good values now could pay off in the long term.
Consider bonds and other diversifiers
In addition to looking for good values, this is also an opportune time to evaluate your portfolio diversification. If the market does correct or drop significantly next year, you do not want to be holding most of the same type of investments — like large caps, tech stocks or growth-oriented investments — because they will all probably move in tandem, leading to bigger losses.
However, you can diversify with a variety of stocks so that they all donʻt perform the same in any given market. That means having value stocks, small or mid caps, or all-weather stocks that perform well in down markets. You can do some research on this site and others to find out where to look for stocks or industries that zig when the broader market zags.
You may also want to add some bond investments or funds to further diversify. Bonds are expected to perform well next year, particularly in a scenario in which the economy slows. The yields that some bond funds provide will look attractive compared to more volatile stocks, and as interest rates start to come down, probably in the second half of the year, bond returns could be even better.
Whether or not a recession or downturn emerges remains to be seen, but reviewing your portfolio for value and diversification is a good idea no matter the environment. However, it may become even more important to do so if the markets do struggle.
