Since the Covid pandemic first started to spread in early 2020, there’s understandably been much talk in the media around a prolonged economic crisis. When stark warnings like this surround us, our natural tendency can be to take fright and shelter our hard-earned wealth from the turbulence of the investment market.
The truth is that crises are a familiar part of the investment landscape. Since 1990, we can identify 13 such situations, summarised in the table below. On average, that’s one every two and a half years.
That sounds like a lot of crises. Yet over the period, the UK and US equity markets delivered an average annualised return of 7.3% and 10.6% respectively1. So, history suggests that investors can face a high frequency of turbulent times and still make good returns on the stock market.
An intelligent way to respond to crises
Crises of one form or another are a part of the investing fabric. Of course, they do often lead to losses and shortfalls in the short term. But that doesn’t mean we should abandon the markets every time we see trouble brewing. That’s because, if we were to respond to weak markets by selling equities, we might miss out when the market improves. Similarly, if we’re quick to sell, human emotional bias makes it difficult to know when to jump back in.
Missing out on periods of good market performance can be costly in the long term. If we were to remove the top three percent of weekly increases (the orange lines in the chart, below), the average annual return since 1990 falls to -2.1% and 1.0% in the UK and US respectively. If you recall, the average annual return without these weeks removed was 7.3% and 10.6%. Over this period, staying invested for the long term and soaking up the volatility was the better option.
How to weather the next economic storm, in three steps…
When we invest, we don’t separate ourselves from risk, we engage with it. At Nutmeg, we help our investors to engage with that risk. Here we’ve laid out our tried-and-tested approach to help deal with whatever crisis comes around:
- Take a long-term view and make regular contributions to your portfolio. This way you can enjoy the benefits of pound-cost averaging.
- Ensure your risk appetite is in line with your time horizon. Remember volatility is your friend. In long-term investing, the higher the risk, the higher the potential return.
- Stay diversified.
On the third point, there are two types of diversification to keep in mind:
- Asset diversity is achieved by including different assets. Nutmeg fixed allocation portfolios offer a well-balanced mix of assets across the risk spectrum.
- Portfolio diversity is achieved by using variable weights for each asset. Nutmeg’s Fully Managed, Smart Alpha, and Socially Responsible Portfolios include a forward-looking element of diversification. Our experienced investment team actively assesses the prospects of all asset markets and modifies portfolio exposure accordingly, while maintaining asset diversity.
Next time you see a crisis, don’t panic
It is in the nature of the media to present every new crisis with fervour, as well they might in order to sell the news. But should panic over a news story inform your investment? If the latest crisis concerns renewed fears around the pandemic or anything else, adopt our three-step method and you can ride the investment wave.
Sources
- Bloomberg, 05/01/1990-26/11/2021
Risk warning
As with all investing, your capital is at risk. The value of your portfolio with Nutmeg can go down as well as up and you may get back less than you invest. Past performance is not a reliable indicator of future performance.
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Brad Holland
Brad is Nutmeg’s director of investment strategy. A veteran – 28 years at last count – in financial markets, he started his career as a professional economist at the Australian Reserve Bank. He now specialises in economic and financial market strategy within investment management. Brad studied post-graduate quantitative economics at the University of Queensland, Australia. Despite living in London for 20 years now as a naturalised British citizen, he’s still not quite ready to support England-v-Wallabies.Other posts by Brad Holland