by Roger Balch
Although the natural reaction upon seeing headlines like “As of lunchtime November 21 the ASX had wiped out two years of gains” (in the AFR) is to panic, wise investors know this isn’t the most appropriate response.
Even though, by the end of November, the benchmark ASX 200 Index had retreated almost 10 per cent since its peak in late August this year. And earlier in the month it had entered official “correction” territory when it was down by more than 10 per cent.
The first step in determining the most appropriate – and profitable – response to an unexpected market slump is to understand the factors behind it.
In this case, the mayhem was triggered by trade wars and increasing geopolitical tensions around the globe at the same time as central banks eased off – and in some cases, reversed course on – their quantitative-easing programs. (Quantitative easing is the central-bank buying of securities such as government bonds to lower interest rates and boost money supply.)
Wealth-management and family-office business BMF Wealth says the about-turn hit hard because, on the frothy US markets, valuations were elevated to extreme levels as traders followed momentum and chief executives further fuelled the frenzy by buying back their company’s already expensive shares.
Should I be worried?
Financial-services firm Evans Dixon says investors shouldn’t be overly concerned about October and November’s equity-market volatility because: “It’s relatively common for stock markets to experience corrections of around 10 per cent – particularly after a period of strong performance.”
As always, investors with a soundly constructed portfolio are best placed, with BMF Wealth saying, “It depends how the investor’s portfolio is constructed, the underlying quality of their assets, the asset-class diversification and their time horizon. Long-term investors holding well-diversified quality assets should be able to weather a more profound market correction.”
Is this a buying opportunity?
Evans Dixon says it will be looking for opportunities created by the volatility: “Given we expect that some of the issues that are contributing to the uncertainty will fade in coming months and that the underlying macro-environment remains healthy.”
And where’s a good place to find these opportunities? “Given the sharper falls in Asian and European markets, these are likely to be the first regions where we will look to redeploy capital,” says the firm.
BMF Wealth is of the same opinion but a little more circumspect. “Depending on your asset allocation and risk tolerance, it could be a buying opportunity. However, it is always worth remembering: better a little caution than a great regret.”
Or should I sell?
Investors with a soundly constructed portfolio can probably rest easy. As BMF Wealth says, “If you’re happy with the quality of your assets, your asset diversification, you can take a long-term view and have no debt, then you may wish to stay with your investments. Holding low-quality assets in the current environment however may be tempting fate.”
Depending on your asset allocation and risk tolerance, it could be a buying opportunity.
What about tech stocks, they got really clobbered?
The good news is that despite the battering suffered by tech stocks, both in Australia and the US, the outlook is optimistic.
“The long-term potential for many of the tech stocks is outstanding given the growth prospects in sectors like online advertising and ecommerce, so we are comfortable retaining exposure to this sector,” says Evans Dixon. “In general, a good investment strategy is to select quality companies with strong growth potential. Investors should then look to hold them for gains in the long term and not be too concerned about short-term news flow and movements in stock prices.”
What’s going to happen next?
Some of these risks have now passed without incident (such as the US midterm elections, Iran embargo and the reporting season) while others are reaching critical points over the next two months (Brexit, the Italian budget and the US-China trade war). Evans Dixon therefore says, “As a result, by the end of January, the risk environment should be much lower.
“In addition, we note that the economic backdrop is as strong as it has been in a decade. The US economy in particular is growing at close to its highest rate since the financial crisis, and this has translated into a strong earnings environment. As the risks recede and investors focus back on the healthy macro-environment, we expect markets to stabilise through the early months of 2019.”
Initial reactions to the turmoil by investors will range from panic to complacency. However, sensible thinking and sound professional advice will put in you in the sweet spot between the two. And make you better prepared for the next bout of volatility.