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What should you do with your investments during periods of high volatility?

Market volatility is no reason not to invest. Here’s why

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Topic: Investing

Sit tight, hold your nerve and invest for the long term

Volatility is a word that will be familiar to anyone who has watched the news lately. In recent months seismic geopolitical events have sent markets lurching in unpredictable directions on an almost daily basis. With Brexit, US-China trade tensions and swings in Asian markets, it’s not surprising that investors are feeling nervous. Still, market volatility is no reason not to invest, and here’s why.

Amid the daily noise of a chaotic news cycle, investors should rest assured that three facts remain true:

1) volatility is normal,

2) stocks almost always outperform cash savings in the long term, and

3) the stock market remains a sensible place to put your money.

Market volatility is normal

The volatility we’re currently experiencing is particularly notable because it comes after ten years of near-uninterrupted gains in the stock market. In August, Wall Street set a new record for the longest bull market – investor speak for a period of consistent share-price rises - of all time, a run which has seen the value of US stocks increase by 320%(1) over the past ten years.

If you look back even further, for example over the past 38 years, you would see that periods of volatility occur fairly regularly. 21 of the 38 years between 1980-2018 have seen at least one double-digit dip(2) in the stock market. Still, between 1980 and 2018 the S&P 500 has provided average returns of nearly 12% per year. $1 invested in 1980 would now be worth over $70 – despite crashes in 1990, 2000 and 2008(3).

Protection against market volatility

Faith in the market isn’t the only tool at our disposal when faced with volatility, especially for investors whose money is with actively managed services like Click & Invest. Through diversification (a technique used by investors to manage risk on their investments), it’s possible to actively insulate yourself against volatile events. Take Brexit as an example. Our expectation is that the impact of even a hard Brexit on a well-diversified portfolio made up of assets from every corner of the global economy would be minimal, as only UK - and, to a lesser extent, European - assets would be impacted.

Even with events as unpredictable as Brexit, skilled investors can soften the impact of volatility by structuring their portfolios based on the likelihood of certain outcomes. If, for example, Brexit negotiations break down, the probability of a no deal Brexit would increase. In this situation a fund manager could react by reducing his or her portfolio’s exposure to medium sized UK companies. In other words, with actively managed services, investment managers can protect their clients’ money by using research to gain a good understanding of the situation and prepare their portfolios accordingly.

Waiting out market volatility

As important as strategic diversification of your portfolio and the reallocation of funds can be in helping to navigate unpredictable markets, the best antidote to volatility is time. It's tempting to react emotionally when faced with volatile markets, but the recommended course of action is usually sit tight and ride out the storm. The current trade tensions are a case in point. The US and China’s trade stand-off is likely to last one or two more years. It’s difficult to say what the impact will be over that period, but we’re likely to see increased volatility in emerging markets (countries with less mature economies) as deals are renegotiated and tariffs are imposed and removed. Our experts at Click & Invest are able to look beyond these short-term fluctuations to see where the true value lies over the long term. Over a five or ten year period, such an approach can prove successful.

During periods of volatility, if you withdraw your money, or decide not to invest at all, this may have a more detrimental long-term impact on your money than the drawdown itself. Even those who invested right before the financial crash just over a decade ago would now be sitting on returns of over 100% - far better than cash savers, who would have earned just 17%(4). In the long run, then, the cost of not investing may be far greater than an isolated dip.

If you are considering investing, click here to read our article on what you consider before investing in the stock market.

Sources

(1) http://www.morningstar.co.uk/uk/news/169769/sp-500-rally-how-far-can-this-bull-run.aspx/

(2) https://am.jpmorgan.com/blob-gim/1383275314518/42870/MI-GTM_4Q18-HIGH-RES-14-Tablet.png

(3) http://www.moneychimp.com/features/market_cagr.htm

(4) https://www.thisismoney.co.uk/money/investing/article-6167425/Investing-market-collapsed-decade-ago-delivered-137-profit.html



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