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What to do if you think the market is about to crash

21 August 2015

With the FTSE 100 now down over the year, a panel of financial experts tell FE Trustnet how investors could adapt their portfolios if they are feeling particularly nervous about market movements.

By Lauren Mason,

Reporter, FE Trustnet

It has been difficult for investors to miss the lacklustre performance of the FTSE 100 lately, as the blue-chip market has sank on the back of a series of aggressive headwinds from across the globe.

The FTSE has handed back all its gains for 2015 and now sits about 3 per cent down over the year to date

Price performance of index in 2015

 

Source: FE Analytics

The results may not come as a surprise, as global issues such as the slowdown in China and the subsequent devaluation of the Chinese renminbi have been well-documented in the media.

Troubles in emerging markets, which are seen as the engines of global growth, have also been present in Brazil, which hiked rates earlier this year to a six-year high in an attempt to reduce inflation, and Russia, which has spiraled into deflation following the collapse in commodities.

Sadly, the picture doesn’t get any brighter outside of the BRICs. Stretched valuations in the US, the plummeting price of oil and impending rate rises from the UK and the US have all acted as headwinds to further market progress this year.

For investors who are worried that all of these issues are going to continue to bruise and batter the FTSE 100, how should they be crash-proofing their portfolios?

Ben Willis (pictured), head of research at Whitechurch Securities, says the knee-jerk reaction of an investor who is concerned about a market correction is to go into cash, but this isn’t always the best idea.

“The problem with this is that even if you call it right before any correction, you then have to decide when to go back into the market. Again, you might get fortunate and time your entry back in well – but to us such short-term timing is akin to gambling and it is highly unlikely that you will continue to time your decisions correctly,” he said.

Instead, he recommends diversifying across the widest range of assets possible, despite the high degree of correlation between equities and bonds in recent years.

Willis says that adding in other investments such as commercial property and absolute return-type vehicles will create an uncorrelated portfolio that can provide protection and damage limitation when markets are falling sharply.

As a result, when one asset class is performing poorly, the other asset classes could counteract this by performing well.

“However, if investors are particularly concerned about the macro, then it may prove prudent to hold a portion of the portfolio in cash – ready and waiting to time entry back into an asset class. For example, you may want to take profits from a position within the portfolio that has performed very well and hold in cash,” he added.

Adrian Lowcock, head of investing at AXA Wealth, also believes that holding cash is a viable option and recommends that every investor sets some cash aside, as corrections and crashes often provide stellar investment opportunities.

Like Willis, he believes that defensive assets such as absolute return funds should be a welcome addition to nervous investors’ portfolios.


 Performance of sectors over 10yrs

 

Source: FE Analytics

“Absolute return funds can make money in a falling market as well as a rising market helping investors protect their portfolios. Likewise assets like gold are seen as safe havens particularly in times of volatility,” he said.  

“The famous saying is that economists have predicted 10 of the last five recessions. The same comment could easily be made about professional investors or commentators.”

“Investors should always be prepared for a crash: they often occur when least expected and they’re hard to predict. Therefore investors should be prepared at all times for this.”

Lowcock adds that diversification is fundamental so that investors don’t hold all of their eggs in one basket. 

“As another tip, do not panic and sell out – this can be hugely destructive to the value of your investments so remain focused on your objectives,” he added.

Hargreaves Lansdown’s Laith Khalaf also warns against panicking and selling out and believes that if an investor isn’t prepared to ride out a 10 per cent market correction, they shouldn’t be invested in equity in the first place.

Like Lowcock, he says that a market setback is in fact a good time to be increasing exposure to equities in order to reap the benefits of value opportunities.

“Your traditional safe haven is government bonds but they don’t look particularly safe at the current prices,” the senior analyst said.

“For conservative investors, and this is not right now this is just generally, the sort of funds you should be looking at are Newton Real Return and Troy Trojan, which are flexible funds with a focus on capital preservation.”

Managed by FE Alpha Manager Iain Stewart, Newton Real Return has an FE risk score of 37, which means it has shown 37 per cent of the FTSE 100’s risk over recent years.

Not only does it invest in a broad range of assets and consist of more than 120 holdings, it has also nearly doubled the performance of its peer average in the IA Targeted Absolute Return sector over 10 years.


 Performance of fund vs sector and benchmark over 10yrs

 

Source: FE Analytics

Sebastian Lyon’s Troy Trojan fund has also outperformed over 10 years within the IA Flexible Investment sector. The portfolio is built around four ‘pillars’ – blue chip equities, index-linked bonds, gold and cash – that it is hoped will preserve capital with the promise of growth.

Meera Hearnden, senior investment manager at Parmenion, says property could be a good addition to standard portfolios of stocks and bonds. Property has become increasingly popular with investors, offering diversification from the bond and equity elements of their portfolio.

Absolute return funds also have their place, she says.

“Funds like the Standard Life GARS fund could also be held alongside these portfolios as a further aid to help dampen the volatility from the equity element, yet deliver sound returns,” she added.

“The balance between these assets could provide dull but worthy returns in what may be uncertain times with potentially large drawdowns along the way.”

Neil Jones, investment manager at Hargreave Hale, says the market has already fallen back quite a long way, so selling now would not be advisable as investors could miss out on recovery.

However, he expects volatility to continue, as the economy is approaching an interest rate rise and concerns over Chinese economic growth are showing no signs of subsiding.

“One area we have been investing in for a while and believe continues to be attractive are infrastructure funds, which have held up well during the recent market sell-off,” he said.

“They have predictable revenues and pay income to shareholders of around 5 per cent. They aren’t terribly exciting, but that is quite an attractive trait at the current time.”

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