I often say that market corrections are frequent, normal, and not a reason for clients to change their investment strategy. However, not all clients are prepared psychologically for the experience of investing through market cycles with the inevitable ups and downs along the way. Short-term negative news can be very alarming however a long-term perspective has helped investors to calm their nerves, and see the importance of staying the course in a diversified portfolio. Returns long-term have been more than satisfactory.
IT HELPS TO KNOW IN ADVANCE
Long-term investors need to be prepared for market declines, because they happen unexpectedly. On average the market has a correction of 10% (a decline from a high to a low) at least once a year.
2017 was actually a unique year on record, with global markets increasing month to month with one of the lowest years for market volatility since records began.
It’s then all the more important to remember that markets experience pull backs, but this does not mean the year will end on a negative. Historically, market declines have always been followed by rebounds, because shares have continued to rise over time. Bear Markets (a decline of over 20% from high to low) occur on average every 5-7 years. As it is almost impossible to predict when these events will take place we believe the best strategy is to stay invested in a portfolio best matched to your risk goals and objectives.
This might mean that in extremely good years for the stock market your portfolio may under-perform benchmarks such as the top UK 100 shares, if you are taking a more cautious approach than 100% equity. Whereas with a higher percentage of cash and bonds in a more defensive portfolio you are less likely to experience the same level of decline in market downturns. This also provides the opportunities to rotate assets and re-balance when things go out of line with your risk strategy i.e. taking profits when equities are high, or adding to quality when markets pull back.
BE PREPARED . . .
Investors who own a well-diversified portfolio of quality investments and keep a long-term focus are much better prepared to ride out the storm of market volatility. Understanding the importance of not reacting to events and staying the course will help you avoid the major pitfalls of selling when the news is bad (when prices are cheap) and chase returns by buying more when markets are overly expensive.
The stock market is the only market in the world where when things go on sale people run away, conversely it becomes a market almost irresistible for investors to avoid when things
keep going up!
. . .TO BEAT THE BEAR
So, what should investors do to prepare to beat the bear? The first step is not to overact to current doubts. Make sure your mix of investments is appropriate for your risk tolerance and goals.
Review your cash balances and emergency funds. You don’t want to have to raise capital at a time of depressed market valuations, so make sure you have enough cash and short-term funds to let
your portfolio perform well over the long term.
Review riskier investments and portfolios you hold elsewhere. If you are unaware of the risk you are taking with other investments, outside of your portfolios at Raymond James, arrange a meeting with your wealth manager to check your balance. The outlook of certain investments may no longer compensate you for their additional level of risk.
STAY INVESTED IN THE RIGHT MIX OF ASSETS FOR YOU
While prices are not as cheap as they once were, valuations of many businesses to their earnings still look attractive. Sitting on the side-lines has historically not helped many investors waiting
for the markets to decline again, as when they do fear holds many back from buying at the best prices.
An example from the UK stock market between 1996 and 2016 show us that a fully invested client would have averaged a 7.4% annualised return. If the client had missed the 10 best days their
average return would have fallen to 4.2%, if they had missed the 30 best days it would have dropped further to 0.2%, and if they were unlucky enough to miss the 50 best days the average would have been -2.9%.
Understanding that market declines are normal will allow you to overcome the fear and beat the bear whenever it may appear.
Risk warnings: Opinions constitute our judgement as of this date and are subject to change without warning. Certain investments carry a higher degree of risk than others and are, therefore, unsuitable for some investors. The value of investments, and the income from them, can go down as well as up, and you may not recover the amount of your initial investment. Where an investment involves exposure to a foreign currency, changes in rates of exchange may cause the value of the investment, and the income from it, to go up or down. The information in this document does not constitute advice or a recommendation and you should not make any investment decisions on the basis of it.