Why risk shouldn’t be reactive

After 10 years of a record bull run, the recent market correction has come as a shock – even to those who have seen significant equity movements in the past. As a result, some have hit the panic button, and looked to de-risk their portfolios.  That said, I’m pleased to say that none of our clients did so.

Over the years, I have come to realise that if you are shopping for something, and it’s half price, you don’t wait until it’s back at full price before you buy. You might even stock up.

Whether that’s groceries or socks, it’s natural behaviour.

But when we see a price fall in investments, our instinct is to do the opposite. While this is understandable there are many pitfalls of turning that instinct into action.

When is a loss not a loss?

Virtually within a week, the FTSE All Share shed nearly 1500 points – around 34%.  But, and this is important, this loss was not locked in unless investors immediately sold their investments and withdrew the resulting cash from the market.  In doing so, they would have missed the market rebound over 17% in the following 3 weeks, and crystallised a larger loss than if they had remained in the market.

Opportunity knocks

Imagine instead, that the investor was savvy enough to sell before they suffered the full pain of the market drop and exited the market round about the end of February. At that point, the FTSE All Share had fallen just 11.48%. By March 23rd, they might have been feeling quite pleased…but with the market now trending up, what will they do?  When do they decide to buy back in?

From what we read, it would appear that Active managers show they are broadly very excited about the opportunities now present. They are in no hurry, but there are businesses they have wanted to buy into for some time that now look to be priced attractively.  Investors out of the market stand to miss out on significant growth when these businesses bounce back.

Price is what you pay, value is what you get

In recent years, the debate of active versus passive fund management has been lively. A rising tide lifts all ships, so passive vehicles have held their own in a decade-long bull market.

If the tide has turned, now is the time for Active managers to prove their worth. They have the scope to be selective.  This means they can position themselves to avoid the worst hit areas if we see a recession, or conversely, maximise the benefit when we emerge.

Risk as part of a holistic financial plan

The most important thing to remember in all of this is that risk is an integral part of a clients’ financial plan.    Their Risk Rating is not an arbitrary number, subject to market conditions. It is arrived at through a personal assessment of their risk appetite, their need to take risk to achieve their stated objectives, and their capacity for loss – an objective view of how much loss the client can afford to bear.

This has all been factored in to get them to where they are today.  As part of that advice journey, it was agreed that the clients’ investments were suitable for them, over the period of time they have to invest – even encompassing shorter term market falls.

And the value of good advice is becoming clear. You will no doubt have been aware of the wartime rhetoric has been used to rally the nation during this unprecedented time.  The poster of Lord Kitchener is well recognised, but maybe not the name,   The caption is of course is emblazoned on mugs, tee shirts and all manner of merchandise.   

The sentiment too is recognisable – “Keep Calm and Carry On”.

With thanks to Parmenion Capital Partners