How to Cope with Market Volatility

Ray Calleja

An article written by Ray Calleja: Head – Private Clients, MeDirect

Volatility and uncertainty is likely to remain high around the progression of the current pandemic of Covid-19. Hopefully, the rates of infection around the world will gradually begin to flatten out, however it looks like this will be a slow process. But everyone is hopeful that this could eventually lead to a return of domestic demand, corporate profitability and consumer spending.

That leads us to our subject today. Volatility and the individual investor.

It is never nice to see the value of your investments go down, but investing in the stock market is a way to try to grow your wealth over the long term, usually by investing in mutual funds, as we do at MeDirect, or for some of our customers who prefer to invest on their own by investing directly in companies by buying shares.

However, many seasoned investors see market volatility as a sign of opportunity rather than turmoil. Market volatility is one of the most reliable things you can predict because you can never tell what prices are going to do next week, next month or even next year. The one thing we know is that this is a process that will always happen – we just don’t know when it will occur. This process moves around more than the financial fundamentals and more than the underlying cash flows of the companies that we invest in.

And it means that at times there are these volatile periods where market prices will fall. Other prices will fall too such as commodity prices, residential property prices and so on. And as a consequence, people get scared. People feel the pain of losses more than they enjoy the pleasure of gains.

And here is why it is very important that you don’t over-react and sell stocks or mutual funds when they go down. That is the worst thing that people can do. As an intelligent investor you should be prepared for market volatility by buying assets that you think are worth more than the price you are paying for them. At times that means being willing to hold more cash so you can invest more when such circumstances arise. Knowledgeable investors view market volatility as an investment opportunity. A famous quote from Warren Buffet is very appropriate, here. He says that he likes stocks the way he likes his socks – to be ‘on sale’. Often, market volatility means lower prices. Most of the time in the stock market people want more of something when the price goes up and they want something less when the price goes down. Experts tell us that it should be the exact opposite. So generally, when prices fall it means you are able to buy stocks or shares (a portion of a company) at better prices.

This is therefore viewed as positive, not negative. Good investors prepare for the volatility by demanding good prices before they invest and that allows them to have capital or cash available to take advantage of the market opportunity.

So once again we re-iterate the importance that, during periods of market volatility, you don’t panic and you don’t over-react. You should not sell out your investment at the bottom. That is the worst thing that people can do.

Daniel Needham, Global Chief Investment Officer and President at Morningstar says “Our research shows that those who sell out at the bottom and then buy back, say, a year later, when they feel more comfortable, do much worse than those who stay invested. So, we think that the most important thing is to actually not do anything.”

The best advice if you do feel anxious is to speak to your financial advisor, who will be able to discuss your investment portfolio and see that it still matches your investment objectives and attitude to risk. Importantly, investors should make sure they maintain a diversified portfolio, whether by fund, geographical area, or type of asset (including the likes of shares, bonds, property, or cash).

It is important that you stick to your investment plan, that is why it is there. In the short-term markets are going to move around a great deal. And it is therefore very important that you take a long-term approach to investing.

Market volatility is normal and expected. History tells us this episode, too, shall pass. To date, every significant market fall has been followed by a rebound. We have had a sharp downturn, we just can’t predict how low the market will go or when it will bounce back.

Our takeaway message is therefore that at times of high market volatility or when prices fall, it is a time when you ought to consider adding more to your investments rather than taking them away.

 


The above is for informative purposes only and should not be construed as an offer to sell or solicitation of an offer to subscribe for or purchase any investment. The
information provided is subject to change without notice and does not constitute investment advice. MeDirect Bank (Malta) plc has based this document on information
obtained from sources it believes to be reliable but which have not been independently verified and therefore does not provide any guarantees, representations or warranties.
MeDirect Bank (Malta) plc, company registration number C34125, is licensed by the Malta Financial Services Authority under the Banking Act (Cap. 371) and the Investment Services
Act (Cap. 370).

The financial instruments discussed may not be suitable for all investors and investors must make their own informed decisions and seek their own advice regarding the appropriateness of investing in financial instruments or implementing strategies discussed herein.

If you invest in any of the products discussed you may lose some or all of the money you invest. The value of your investment may go down as well as up. A commission or sales fee may be charged at the time of the initial purchase for an investment and may be deducted from the invested amount therefore lowering the size of your investment. Any income you get from this investment may go down as well as up. This product may be affected by changes in currency exchange rate movements thereby affecting your investment return therefrom. The performance figures quoted refer to the past and past performance is not a guarantee of future performance or a reliable guide to future performance. Any decision to invest in a mutual fund should always be based upon the details contained in the Prospectus and Key Investor Information Document (KIID), which may be obtained from MeDirect Bank (Malta) plc.

 

Franklin Templeton Insights: The First (and Worst!) Quarter is Over


In the first quarter of 2020, stock markets across the globe experienced one of the worst quarters in the history of global financial markets. But maybe it’s time for investors to take a pause and do some strategic thinking, according to Franklin Templeton Multi-Asset Solutions’ Wylie Tollette and Gene Podkaminer. They offer some practical investment wisdom in these turbulent times.

In some ways, the world fundamentally changed in the first quarter of 2020. March alone has shown how long-term market trends can change literally overnight. And yet, we still confront familiar tradeoffs as we turn to rebalancing and positioning our portfolios for an uncertain future. In between trying to figure out how to adapt personally and professionally to the rapidly changing COVID-19 pandemic, virtually all investors, individual and institutional, are about to confront a challenging set of decisions.

What should you do, and when should you do it? This brief list is intended to help provide investors of all types a framework to address these questions.

1. First, take a deep breath

We have experienced the fastest decline from record stock market levels to a bear market in recorded history, faster even than the 1929 crash that started the Great Depression (see chart below). Markets appear to incorporate new information more quickly these days but are still prone to over- and under-reaction, particularly when faced with an uncertainty like the coronavirus. It is virtually impossible to predict the exact peak or trough, or the behavior of market participants over the short-term; nor is that likely a worthwhile endeavour.

It is understandable that investors feel like their heads are spinning. Step back from that Bloomberg terminal or TV screen, take a deep breath, and try to picture the long view. Many of us have experienced severe market corrections before. And we’ve successfully navigated our way through them, one way or another. We will see our way through this challenging time as well. Red numbers eventually turn green.
Article Image 1 - The First (and Worst!) Quarter is Over

2. Take the long view

This may be a cliché in the investment industry, “that is what they always say after a terrible quarter”, but we believe taking a long-term view is truly essential in framing the asset allocation decisions ahead and positioning a portfolio for success. The asset allocation choices underpinning our portfolios are themselves based on long-term assumptions. The reptilian portions of our brains have evolved to react quickly and instinctually to immediate threats, so called “fast thinking.” Taking the long view is particularly important in the middle of a global virus pandemic, which likely activates our flight-or-fight response where reptilian thought processes can alter our usual investment decision making process. Focusing on 3-, 5-, and 10-year performance can help engage “slow thinking” and facilitate more rational decision making.

3. Think risk first

As investors, we cannot control returns, simply recall the last 6 weeks. But, we can control the risks we take (for the most part) in each part of our portfolios. Returns are essentially the “result set” of those risks. Many investors don’t fully understand their actual risk capacity until tested, as it likely was in the last six weeks.

We’ve just come out of a decade where central banks dampened volatility through unconventional monetary policy, so the recent spate of volatility has felt particularly shocking. Better to reconfirm your tolerance and capacity for volatility and align your forward-looking asset allocation with that (now better understood) risk capacity. The alternative is to bumble ahead in relative ignorance. It is better to make an explicit set of decisions than to implicitly lurch ahead.

One bright spot: viewed from a valuation perspective (the way Benjamin Graham thought about investing), the typical portfolio is actually lower risk now than that same portfolio was six weeks ago. It probably doesn’t feel that way – more like you might be holding a grenade, but one shouldn’t focus on feelings when it comes to investing (see “fast” vs. “slow” thinking noted above).

4. Rebalance thoughtfully

Recent market performance is exactly the type of event where a disciplined policy of rebalancing back to strategic targets thrives. You are not going to get the timing exactly right (see above on calling peaks and troughs). But rebalancing is part of strategic asset allocation, and it is usually built on capital market expectations that look out 7, 10, 25 years or longer. So should your calculus of whether your approach to rebalancing is successful. We recommend starting to average your way back to target ranges over the next few months as the outlook becomes clearer, rather than a “big bang” approach of returning precisely to targets.

Even if you were ill-prepared for the recent downturn, say, for example, by having failed to rebalance out of equities as they rallied through the end of 2019, most investors have the time horizon to focus on the 3-, 5- and 10-year returns. And, those are generally the numbers that really matter anyway.

5. Have more liquidity than you think you might need

While the current crisis looks different from 2008, some things stay the same: there’s no substitute for liquidity. When markets are melting down, few things are as handy to have on hand as cash and other truly liquid assets. Even gold, the stereotypical “safe-haven” asset for nervous savers and investors, was negatively impacted; in other words, “cash is king.” In the event investors with near-term liabilities decide to allocate a year or two of projected cash demands in cash and short-term sovereign bonds, this may allow a portfolio to avoid selling long-term assets in the short term when markets remain volatile.

6. The denominator can dominate

As at the quarter-end, investors with significant illiquid or private holdings will soon find that their public market assets have dramatically re-valued. Meanwhile, private holdings, which tend to rely on appraisal-based valuation on a quarter or more “lag”, are still sitting pretty (if stale) with 31 December 2019 market values. This will likely make the illiquid asset classes in a portfolio look larger than they truly are, as the values are surely impacted by recent market turmoil but accurate prices are not immediately observable.

Whether a parcel of real estate (for example) is owned by a REIT (valued daily) or owned by a limited partnership (valued quarterly), the actual underlying property’s true economic value should be similarly impacted. This phenomenon can make calculating allowable asset class ranges challenging, due to the unknown “total assets” denominator. A simple solution for allocators to address quarter-end rebalancing is to estimate the mark-down and include this in both the numerator and denominator.

7. Capital calls are coming

Private assets are invested based on the manager’s timing, not the investor’s. Once an investor commits capital, it may not be drawn down for years. In the current market, smart private asset managers are going to be seeking bargains and are likely to call capital, most likely, at the worst time for allocators. For a typical retail investor, a corollary exists in the form of unexpected expenses or loss of employment, difficult to predict and potentially very impactful. These types of events need to be built into your potential liability projections and rebalancing approach – another good reason to follow tip #5 above.

8. Don’t sell long-term assets in the short term

This sounds basic, but it is remarkably common, even among sophisticated investors. Following the global financial crisis, one large US institutional pension fund, for example, found its portfolio dramatically outside of its asset class ranges. In anticipation of receiving capital calls from its private equity and real estate managers, public equities were sold near the bottom of the market in 2008–2009 to raise cash. As stock markets recovered over the following several years, it missed out on the rally on those same equity assets. Similarly, some of the more levered real estate projects were taken back by banks at the depths of the crisis and its real estate portfolio is still healing, more than 10 years later.

Unrealised gains and losses are just that – unrealised. Selling long-term assets with positive forward prospects at transitory low prices violates the first truism of investing: “buy low, sell high”. See tip number 5 above about maintaining a little bit more liquidity than you think you might need, just in case.

9. Diversify

Recently, it has been very difficult to beat a “boring” 60/40 portfolio of the MSCI All-Country World Index (ACWI)  / Bloomberg Barclays Global Aggregate Bond Index (see chart below). There are two related reasons: 1) the performance of fixed income; and 2) the risk diversification from the relatively large 40% allocation to bonds during equity market drawdowns. Much of fixed income performance has been due to the behaviour of long-term rates for the past 35 years – they have steadily gone down, increasing the value of long-term bonds and also providing much-needed diversification against equity factors. As sovereign bond rates approach zero: already near or below zero in much of the developed world, investors will need to look further and harder to diversify equity risk.

Article Image 2 - The First (and Worst!) Quarter is Over
 

Finally, we expect markets to continue to be volatile until there is a clear path for both humans, economies and capital markets to navigate the pandemic. Tip #10 is to go back to #1 and read the list from the top, beginning with another deep breath. Keep calm and carry on.


 

Franklin Templeton Key risks & Disclaimers:

Important Legal Information

This material is intended to be of general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any security or to adopt any investment strategy. It does not constitute legal or tax advice.

The views expressed are those of the investment manager and the comments, opinions and analyses are rendered as of publication date and may change without notice. The information provided in this material is not intended as a complete analysis of every material fact regarding any country, region or market.

Data from third party sources may have been used in the preparation of this material and Franklin Templeton (“FT”) has not independently verified, validated or audited such data. FT accepts no liability whatsoever for any loss arising from use of this information and reliance upon the comments, opinions and analyses in the material is at the sole discretion of the user.

Products, services and information may not be available in all jurisdictions and are offered outside the U.S. by other FT affiliates and/or their distributors as local laws and regulation permits. Please consult your own professional adviser or Franklin Templeton institutional contact for further information on availability of products and services in your jurisdiction.

Issued in the U.S. by Franklin Templeton Distributors, Inc., One Franklin Parkway, San Mateo, California 94403-1906, (800) DIAL BEN/342-5236, franklintempleton.com—Franklin Templeton Distributors, Inc. is the principal distributor of Franklin Templeton’s U.S. registered products, which are not FDIC insured; may lose value; and are not bank guaranteed and are available only in jurisdictions where an offer or solicitation of such products is permitted under applicable laws and regulation.

CFA® and Chartered Financial Analyst® are trademarks owned by CFA Institute.

What are the risks?

All investments involve risks, including possible loss of principal. The value of investments can go down as well as up, and investors may not get back the full amount invested. Bond prices generally move in the opposite direction of interest rates. Thus, as prices of bonds in an investment portfolio adjust to a rise in interest rates, the value of the portfolio may decline. Investments in foreign securities involve special risks including currency fluctuations, economic instability and political developments. Special risks are associated with foreign investing, including currency fluctuations, economic instability and political developments; investments in emerging markets involve heightened risks related to the same factors. Actively managed strategies could experience losses if the investment manager’s judgment about markets, interest rates or the attractiveness, relative values, liquidity or potential appreciation of particular investments made for a portfolio, proves to be incorrect. There can be no guarantee that an investment manager’s investment techniques or decisions will produce the desired result.



MeDirect Disclaimers:

This information has been accurately reproduced, as received from Franklin Templeton Investment Management Limited (FTIML). No information has been omitted which would render the reproduced information inaccurate or misleading. This information is being distributed by MeDirect Bank (Malta) plc to its customers. The information contained in this document is for general information purposes only and is not intended to provide legal or other professional advice nor does it commit MeDirect Bank (Malta) plc to any obligation whatsoever. The information available in this document is not intended to be a suggestion, recommendation or solicitation to buy, hold or sell, any securities and is not guaranteed as to accuracy or completeness.

The financial instruments discussed in the document may not be suitable for all investors and investors must make their own informed decisions and seek their own advice regarding the appropriateness of investing in financial instruments or implementing strategies discussed herein.

If you invest in this product you may lose some or all of the money you invest. The value of your investment may go down as well as up. A commission or sales fee may be charged at the time of the initial purchase for an investment and may be deducted from the invested amount therefore lowering the size of your investment. Any income you get from this investment may go down as well as up. This product may be affected by changes in currency exchange rate movements thereby affecting your investment return therefrom. The performance figures quoted refer to the past and past performance is not a guarantee of future performance or a reliable guide to future performance. Any decision to invest in a mutual fund should always be based upon the details contained in the Prospectus and Key Investor Information Document (KIID), which may be obtained from MeDirect Bank (Malta) plc.

Login

We strive to ensure a streamlined account opening process, via a structured and clear set of requirements and personalised assistance during the initial communication stages. If you are interested in opening a corporate account with MeDirect, please complete an Account Opening Information Questionnaire and send it to corporate@medirect.com.mt.

For a comprehensive list of documentation required to open a corporate account please contact us by email at corporate@medirect.com.mt or by phone on (+356) 2557 4444.