Don’t let Washington’s fiscal negotiations drive your investment decisions

Wall Street breathed a huge sigh of relief once negotiations were finalized on the fiscal cliff and Congress passed legislation. The markets shot up after seesawing up and down for nearly two months after President Obama’s re-election.

This was probably an overreaction on the part of Wall Street, but it’s not unprecedented and we’re likely to see similar behavior during future negotiations over the debt ceiling and the larger spending-cut/revenue-boosting discussions that will come up. So be prepared for more of the same frantic reactions and media attention.

Before taking any action that will affect your portfolio, you need to remember that the United States has endured a string of dramatic events without any lasting effect on the markets. In the past couple of decades, we have seen terrorist attacks, wars, natural disasters, and other major disruptions. None of these has permanently undermined our financial system.

While the issues being discussed in the Capitol are certainly serious and will likely touch the economic lives of millions of Americans, the intense focus on the debate may have had more of an effect on stocks than it should have. The situation sounded so ominous – as if the entire U.S. economy might collapse – and some investors may have overreacted.

You have stock in corporations, not politicians

While the political fortunes of several key players in the fiscal policy negotiations were probably seriously affected in the past few weeks, investors shouldn’t confuse political capital with business capital. A corporation’s worth on the stock market is driven by how it performs as a business entity, and by all measures many American companies are performing quite admirably.

Look back at the market’s performance in 2012. We had a bruising, brutal campaign season beginning in January as the Republican candidates waged an intense fight for the nomination. Then we had a highly polarizing general election that was neck-and-neck going into the final days. And we’ve had the fiscal cliff negotiations, which seemed to paralyze the market. Despite all of that, the Dow was up 7% for the year, the S&P was up 13%, and the Nasdaq was up 16%. (A note of caution: Past performance cannot be relied upon to predict future results.)

Don’t follow the herd, because it’s going the wrong way

Unfortunately, many Americans have been skittish when it comes to the market and have been looking for reasons to pull out of it. Each of the past three years – 2010, 2011, and 2012 – individual investors have pulled out at least $150 billion while the market has gone up in value. At the same time, institutional investors – the professionals who handle money for pension funds, corporations, and the like – have been putting billions of dollars into the stock market. What do they know that individual investors don’t?

They know that what counts is whether a company is creating products and services that people value.

Take Apple. In 2010, the mid-term elections saw the Republicans win a good number of seats in the House because of the Tea Party movement. The divide between the GOP and Democrats was widening. But that didn’t stop Apple from coming out with the iPad. How has Apple performed as Americans have gotten skittish about the market? Its stock went from $190 on Jan. 27, 2010, the day it introduced the iPad, to $579 on June 29, 2012. (Again, past performance should not be relied upon to predict future earnings.) Not that all of the jump is due to the iPad, of course. The point is simply that by making products that people want, Apple dramatically increased its value for its shareholders.

What does it all add up to? As one longtime Wall Street investor said, “In the short run, the market is a voting machine” – that is, it reacts to popular sentiment in the moment – “but in the long run, it’s a weighing machine.” In other words, Wall Street figures out the value of a stock on the basis of performance.

That’s a quote from The Intelligent Investor, which was written by Benjamin Graham and published in … 1949.

This article was provided by Lauri Binius Droster, CFP, a financial advisor and senior vice president at RBC Wealth Management in Madison, and was prepared by or in cooperation with RBC Wealth Management. The information included in this article is not intended to be used as the primary basis for making investment decisions nor should it be construed as a recommendation to buy or sell any specific security. RBC Wealth Management does not endorse this organization or publication. Consult your investment professional for additional information and guidance. RBC Wealth Management does not provide tax or legal advice. RBC Wealth Management is a division of RBC Capital Markets, LLC, member NYSE/FINRA/SIPC.

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