Navigating Through The Volatility Of The Stock Market
After period of optimism, global investment markets have hit the panic button on fears about the possible economic impact of the coronavirus (COVID-19). We are seeing significant falls as well as rallies as the markets react to what measures policy makers are taking to provide economic support and soften the impact of the coronavirus.
Markets move in cycles, at times like this it’s good to get some perspective.
Australian shares rose 24 per cent last year, touching record highs, and 10 per cent a year over the past seven years. Global shares rose 28 per cent last year and 17 per cent over the past seven years.i After such a good run, many observers have been saying shares were looking fully valued and that a correction was likely.
The thing with market corrections is that it is impossible to predict what will trigger them or how long and severe they will be.
Avoid knee-jerk reactions
At this point, markets are responding to uncertainty. Nobody knows what the extent of the economic fallout will be, so the temptation is to bail out of shares and put your cash in the bank. Or jump ship and switch to a ‘safer’, more conservative option in your superannuation fund.
While the urge to act and protect your savings is understandable, knee-jerk reactions can be a mistake.
It’s near impossible to time the market, particularly at the present moment with a volatile market that is responding to a situation that is changing on a daily basis. Not only do you risk selling when prices are near rock-bottom, but you also risk sitting on the sidelines as the market recovers. As history tells us it always does.
In an ever-changing world, the basics of investing stay the same. By sticking to some timeless rules it’s much easier to resist making fear-based decisions and focus on your investment horizon.
Have a plan
Investing is a lifelong journey and like all journeys you are more likely to reach your destination if you plan your route. Without a plan, it’s easy to knee-jerk into decisions that may not be the best in the longer term.
Your plan needs to take into consideration your unique situation, financial goals and your comfort with risk.
Low risk comes with lower returns
Many people are wary of investing in shares because of the risks of the kind of market event we are currently experiencing. Growth assets such as shares and property do entail higher risk but they also deliver higher returns in the long run than cash in the bank.
While domestic and international shares produced stellar returns last year, cash returned just 1.5 per cent which was below the level inflation. Cash returns were not much better over the past seven years, averaging 2.2 per cent a year.
Spread your risk
Shares, property, bonds and cash all have good years and bad. While shares and property tend to provide the highest growth over time, there will be years when prices fall or go sideways. In some years, bonds and even cash produce the best returns.
A good way to reduce volatility and enjoy smoother returns over time is to diversify your investments across and within asset classes. That way, one bad investment or difficult year won’t sink your ship.
The most appropriate mix will depend on your age, the timing of your goals and your risk tolerance.
A disciplined approach
Rather than sell shares in quality companies in a panic, continue to collect your share dividends which may be more attractive at present than the returns available from cash and some fixed interest investments. It may even be worth considering reinvesting dividends in more shares or other quality assets. This way, you avoid crystallising short-term paper losses and benefit from the inevitable market recovery.
When fear is driving markets, it’s important to get back to basics and think long term. If you would like to discuss or review your overall investment strategy, don’t hesitate to get in touch.