On CNBC’s Squawk Box, Mike Thompson of Goldman Sachs (GS) explained investment strategy amid the market’s uncertainty. According to Thompson, for a ten to 15-year outlook, investors should follow the strategy of a 60:40 ratio for the equity-to-fixed income portfolio. The strategy highlights the fact that on a long-term basis, equity still has the potential to outperform.
In fact, if we look at the last 15 years, the S&P 500 Index (SPY) has risen at a compound annual growth rate of 6.6%. The returns only include the index’s levels. Fixed income provided a cushion through predictable income amid the market’s turmoil.
Goldman Sachs has the “crossing the Rubicon” strategy
Last month, the Fed started to reduce interest rates. For the meeting on September 18, there’s an 81.2% probability of a 25 basis point rate cut. Moreover, there’s an 18.2% probability of a 50 basis point reduction in the interest rates. Thompson phrased the current volatility in the equity market as a “storm” for a pilot flying to his destination. In fact, if anyone invested during the low in the “sub-prime” crisis in a portfolio similar to SPY, he would have gained roughly 300% to date.
Considering the current circumstances, investors need to concentrate on large-cap companies. Goldman Sachs reduced its rating on small-cap and mid-cap stocks to “neutral.” The Invesco QQQ Trust (QQQ) concentrates on “100 of the largest domestic and international non-financial companies listed on the Nasdaq Stock Market based on market capitalization.” The SPDR Dow Jones Industrial Average ETF (DIA) is another way to gain exposure to US large-cap companies. Industrial and IT stocks account for 38.9% of DIA.
Valuations are important
The current fall in the equity market makes its valuation important. Based on the last closing level, SPY’s trailing PE ratio was at 19.8x. The forward PE ratio is 15.7x. On Monday, with around a 3% fall in the index, the trailing ratio fell by almost one unit. On a year-to-date basis, SPY has traded at an average trailing PE ratio of 19.9x. In the last 15 years, SPY’s PE ratio averaged around 17.5x.