Whilst there is often no single cause for market volatility, there are some conditions which can lead to it.
In recent times, we have seen a concern about government influence (the ‘Trump’ factor), the perception of a housing market bubble, and instability in global affairs (the US trade war) affect the ability of investors to obtain a reliable picture of the future. While these kinds of stories are not new and may not have triggered the recent stock market fall, they are some of the forces at play in the current market turmoil.
It is human nature that the experience of a loss is more acutely felt than the joy of a gain (‘loss aversion’). Volatile markets can trigger investors to question their strategy and to worry more about money. Uncertainty and a degree of volatility in the market will always be a constant; therefore, it is important for investors to keep perspective and be disciplined in their investment approaches. Below is an outline of the long term fundamentals to bear in mind when dealing with volatility.
1) No-one can time the market
For most clients, equities should be included as part of their overall portfolio. However, ‘timing the market’ – that is, consistently selling high and buying low, is almost impossible. For that reason, we believe in the old mantra ‘time in the market, not timing the market’. In the last 20 years to 2017, missing out on the markets 10 best trading days each year resulted in over 4% pa of underperformance. The best trading days tend to cluster with the worst days, and it’s usually at a time when volatility is above average.
While volatility can test investor’s resilience, active fund managers remove the emotion and view volatility as an investment opportunity. Stretched valuations in some stocks, and indiscriminate passive selling, create opportunities for active managers to add value through strict and skilful risk control.
2) Avoid emotion-driven selling
If the market has been performing well for a period of time, a pullback can often trigger an investor to take profits, while a more prolonged correction can lead to emotion-driven selling (or jumping between investments).
However, emotion-driven selling commonly will result in a lower long-term return on your portfolio, because you are then faced with trying to re-enter a rising market. Before making a decision to sell an investment three factors to consider are:
- What is your investment time horizon? If you are more than a few years away from retirement, or generating a long-term income, a market correction will likely seem like a blip in your investment history in the coming years.
- Are you remaining true to the long-term objectives when you established your investment?
- Fund managers are more adept at counter-emotional investing, as well as understanding the market fundamentals (however, even the best fund managers have periods of short-term underperformance).
Trying to predict which asset class - be it shares, cash, fixed interest or property, will outperform others in any one year can be as difficult as trying to time the market. In the last 15 years, each of these asset classes have had their periods of relative outperformance, but those that post the long-term gains in good years, such as Australian property, can also be hardest hit when the market turns. If you are sufficiently diversified across the asset classes, your broader investment is hedged against periods of high volatility and portfolio risk is smoothed out.
In summary, investors who remain focused on their investment approach, despite periods of volatility, have a greater chance of achieving their goals. A financial adviser will assist in defining your financial goals, and is there to help you ride out periods of volatility when they occur.