HOW TO MANAGE YOUR PORTFOLIO’S VOLATILITY
Your investment portfolio will always be subject to volatility at a point in time. It is important to note that whilst your portfolio’s exposure to volatility is inevitable, this should be appropriately managed to avoid major losses.
WHAT IS VOLATILITY?
Volatility is a measure that highlights the stability of an asset or index (group of assets).
In the securities markets, volatility is often associated with swings in either direction, both positive and negative. Typically, when a market rises or falls more than a few percent daily, we conclude that currently, that specific market is going through a volatile period.
Imagine being on a flight which is experiencing turbulence, it can be unnerving for its passengers, but usually only lasts a short period of time. Being invested correctly means one will limit the amount of surprises along the way.
Hoxton Capital’s advisers and team of analysts work closely with your carefully constructed portfolios, explore our Investment services further.
WHAT’S THE BEST APPROACH FOR investors?
When markets get rocky, it is always good to reflect on the bigger picture.
The worst thing a long-term investor can do is to submit to fear or panic and exit the markets when they get rough. In order to hit their savings goals, investors should always focus on the things they can control like how much and how consistently they save and how well maintained and diversified their asset allocation is.
The impact of exiting and re-entering the markets when they go down and up can be drastic on a portfolio. This chart shows the worst-case outcome of this behavior for an investor by comparing the return on a $10,000 investment into the S&P 500 over 20 years, to how that return is impacted by missing certain days:
One of the reasons that panic selling is so detrimental is that more often than not, the best days in the market come very soon after the worst. This makes it almost inevitable that they will be missed by someone who just exited and solidified a loss.
Between 2000 and 2020, six of the seven best days occurred after the worst day and seven of the ten worst days were followed the next day by top 10 returns.
A perfect example of this was in March of this year when on the 12th of the month, the S&P 500 dropped by 9.49%. The very next day it went up by 9.32%.
In August 2015, Tuesday the 24th was the worst day of the year and Thursday the 26th was the best day of the year.
Given this, if someone leaves the market due to a drawdown, it is impossible for them to get back in to catch the bounce back up.
REGULAR SAVINGS STRATEGIES FOR PORTFOLIO VOLATILITY
Another strategy for portfolio volatility management is dollar cost averaging. Dollar cost averaging is a concept that most people are familiar with. This strategy couldn’t be simpler, invest the same amount into the same thing or same type of things, at regular intervals regardless of the price.
The issue with this strategy over the last 10 years has been that it has underperformed when compared to a lump-sum strategy, due to the continued upward trajectory of the market over that period.
However, with the recent market drop and the likely volatility over the coming short-term period, this strategy has and will continue to show its value again.
Using this strategy, the number of shares or units in a fund purchased each month will vary depending on the price of the investment at the time of purchase. When the value rises, your money will buy fewer shares or units per dollar invested. When the price is down, your money will get you more shares or units.
Over time and across a volatile market, the average cost per share will be more favourable.
For example, an investor who was contributing regularly to a pension or investment plan would have benefited from recent market volatility as they would have bought a larger number of shares while the cost was low:
Dollar-cost averaging is particularly attractive to new investors just starting out. It’s a way to slowly but surely build wealth even if you’re starting out with a small amount. For people with a longer investment horizon, using this strategy may turn any volatility over the next few years into opportunities to buy cheap and enhance the growth potential of their investment plans.
If you are unsure about the economic outlook in the near future but still need to be investing for your future, speak to one of our advisers today about regular saving strategies and how to set them up.
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