Looking back on 2017, we can see the year brought historic highs for U.S. stock indexes, but it also brought new configurations of return-risk ratios we haven’t previously seen. That is, in 2017, the S&P 500 delivered almost two times the average return and less than half the average risk.
With a closer look at those numbers, put in historical context, advisors can gain some insights into the best approach to risk mitigation — namely, a more cautious approach to equity investing — as they structure portfolios for 2018.
Much attention has been given to the low level of S&P 500 volatility in 2017, with its annualized standard deviation of 6.7%, the lowest level since 1964. But what also stands out is that this low-risk environment has been accompanied by strong S&P 500 returns — 21.8% in 2017.
Over the last 30 calendar years, the average calendar-year return was 12% and the risk or annualized standard deviation of those returns was 15.9%. That’s what brings us to the 2017 “wow factor,” a year when the markets delivered almost two times the average return and less than half the average risk.
This chart shows a scatter plot of the total return and risk of the S&P 500 for each of the last 30 calendar years:
The data shows us that 2017 was the lowest in terms of risk, but among the highest in terms of return over the last three decades. There have been stronger return years, including five years with performance above 30%: 1989, 1991, 1995, 1997 and 2013. However, among these highest return years, only 1995 was a year of low risk. The high return in 1995 represented a rebound from a recession and the low equity market return period of 1992 to 1994.
2017 Sharpe Ratio Goes Off the Charts