Due to the coronavirus epidemic, stocks suffered a severe sell-off in March 2020.
If there were one word that could describe the mood of markets around the globe over the past eighteen months, it would probably be “absolutely crazy.”
Okay, two words. But that’s exactly it.
Stock market indices are experiencing a dream run at a time of high unemployment and inflation.
Gold, which is often used as a hedge against inflation and uncertainty, is at pre-pandemic levels.
The precious metal, uncharacteristically, has taken a knock in an environment that should have boosted its prospects.
Cryptos, a relatively young asset class, quadruple its marketcap every time Elon Musk tweets.
Commodities have also seen a series of price swings during the past year.
It began with oil futures prices turning negative in April 2020. Now, the situation is 180 degrees. Oil prices have reached their highest levels since November 2014.
The price of natural gas has risen, and there is no relief for coal. It reached record-highs, leaving the country’s power sector to struggle with shortages.
Metals have also seen a dramatic rise. Prices of steel, aluminum, and copper have reached record highs, suggesting that there is a supercycle.
What is the answer?
Is there a bull market? Are we in a bubble?
The truth is, no one knows. We do know that there are many moving parts that will eventually start to fall apart.
It’s a fact. We don’t know when it will happen.
How can one get through this phase of volatility without getting hurt?
It’s quite simple.
Imagine a cruise ship.
An 80-storey building in height and a 20 storey building in width can be used.
Cruise liner passengers will be able to stay on the same side of the ship, regardless of bad weather or crowds.
Modern cruise ships are extremely well equipped to handle all kinds of bad weather. They are built to withstand even the most severe storms.
Portfolios should be able do the same.
How can ships survive these storms, then?
The naval architects prepare a ship-scale model and put it through extreme weather simulations.
They do this to see how the vessel will react in different situations.
But there is one natural phenomenon which could still put the vessel at risk.
Rogue waves.
They appear out of nowhere, much like volatility. And no one can predict where or when they will pop up.
Rogue waves are rare and cruise ships are unlikely to encounter one.
Cruise ships are equipped with long, narrow bows to cut through the waves better.
They also have stabilisers to help them weather more severe storms.
This is the only way to ride volatility in the market.
So, how do you do it?
Don’t panic.
You have a good chance that your portfolio was designed with your risk appetite and should be able to withstand market fluctuations.
Investors who have lower risk and higher return objectives (with a greater allocation to bonds, fixed deposits and gold) are better able to withstand market shocks. They are also diversified.
What if you are a more aggressive investor with a greater allocation to stocks?
If you choose to Companies with strong fundamentals are worth investing inIf you do this, you will be fine for the long-term.
Volatility can be frightening.
As time has shown, however, fundamentally strong businesses are the best way for short-term panicky situations to be managed and for long-term potential gains.
It is important to remember that panic can lead to both good and bad results.
It can also scare you into selling. The fear of missing out can make you buy.
Don’t be afraid to sell, but don’t be afraid to buy because everyone’s buying.
Stocks fell sharply in March 2020 after investors sold their stocks fearing that the coronavirus could disrupt global supply chains and severely damage the global economy.
The Sensex dropped 3,935 points or 13.1%, while Nifty fell 1,135 point or 12%.
The fall was however short-lived.
Markets have risen by more than 150% since then.
You could have suffered a huge loss if you were unfortunate enough to be caught up in the frenzy.
Maintain a portfolio hedge and make sure to review it frequently
Hedging is a good option for investors who feel they have taken on too much risk in the face volatility.
You should ensure that you have a mix to suit your risk tolerance as well as your time frame.
Your portfolio should include stocks for prosperity and bonds for deflation. You also need gold for inflation and cash for recessions or depressions.
This will allow you naturally to hedge one asset with another.
Once you have determined your allocation, stick to it.
To maintain the same risk level, you should periodically reallocate assets.
This means that you can sell a portion (sell high), of your investments that have been performing well, to make investments that aren’t performing as well (buy low).
The allocation does not have to be the same. It will change to meet your goals.
You can also assess the risk/reward scenario in each asset class if you’re a seasoned investor.
In times of extreme chaos and unpredictability (the 2000s or 2008), for example, it would be prudent to allocate more money into safer assets such as cash and bonds and decrease exposure to more risky asset classes such stocks.
Cash is the king
Cash is the asset class that most investors feel mixed emotions about. Cash is often avoided in bull markets. Cash is embraced in bear markets.
It’s an important asset class in volatile environments.
You can avoid being the one to bear the brunt if a market crash occurs by making sure you have enough cash reserves to cover any financial emergencies that may arise.
You aren’t dependent on your portfolio to cover unexpected expenses. You don’t need to worry about liquidating investments that have lost value.
Cash can also be used to help you make the most of attractive investment opportunities, especially in the event that there is a market correction.
Keep in mind that cash is not meant to be your primary holding.
Cash is especially vulnerable during times of inflation and deflation. Make sure to allocate wisely.
Invest for the long-term
You can ride out market volatility by adopting a long-term mentality.
It is also known by the buy and hold strategy. This strategy involves holding your investments over a longer period of time, often for many years, to reap capital appreciation. compounding.
The strategy assumes that although there may be market fluctuations, it will generally generate long-term returns.
It is also one of the easiest and most effective ways to build wealth. If you have the discipline to stay where you are, financial education is not necessary.
Take Ronald Read’s case.
A janitor and gas station attendant from the United States who died at 92 with an $8 million portfolio.
How did the humble janitor manage to make so much money?
It turned out, there was no secret.
Read saved all he could. Blue-chip stocks are a good investment. Then he waited decades for his savings to compound into $8 million.
That’s it.
It’s risky and difficult to predict the market, as most people are aware. Many panic when they see a market crash.
This emotional and financial rollercoaster can be avoided by staying invested in the market for the long-term.
You can also get tax benefits if you invest your money long-term, rather than in short-term investments.
Long-term gains (those that last more than twelve months) are often subject to lower tax rates than your income tax bracket. Short-term gains, however, are treated as regular income.
Long-term investing can also help you save money on other expenses, such transaction costs associated with active trading.
Professional help
It takes time and skill to properly manage your investments and make the right financial decisions.
It’s not something you can do once in a while.
You can decide whether you need a financial adviser or you could do it all yourself.
Financial advisors are available to help you make the right investment decisions.
They can help you to reduce anxiety and remind of your financial goals and allocations.
But you know yourself better than anyone. You could spend the time to learn as you would for any major life-changing decision.
You can also consult experts from different asset types to assist you in making your decisions, rather than entrusting the entire responsibility to a single person/entity.
In conclusion
It takes a well-maintained vessel, a skilled and experienced crew, and a healthy dose o luck to win the fight against rogue waves.
Although luck is hard to predict, your portfolio should be able withstand the turbulence just like a sturdy cruise ship.
Wealth preservation is different from creating it. It requires a mindset of discipline and a focus on avoiding big losses.
This means that although you may not be able participate in the next investment trend, you will be able to grow your long-term investments consistently.
Remember that markets experience periods of high volatility and low volatility every day. It’s normal!
Higher volatility is not necessarily a bad thing. A small amount volatility can actually translate into greater profits.
Investors can take advantage of the fluctuating prices of asset classes to buy in at a lower price and wait for the cumulative growth.
So, don’t fear volatility. Accept it.
You can’t have upside volatility without the downside. Over time, upside volatility tends not to occur as often.
Embrace it.
(This article has been syndicated from Equitymaster.com)
(This story is not edited by NDTV staff.