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My five tips on managing market volatility

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My five tips on managing market volatility
Updated
March 1, 2021

I think a lot of us were holding on for the end of 2020.


In fact, I'd say you’d be hard pushed to find someone who didn’t want to see the year in the rearview mirror by about July.

But I’m starting to sense we were clinging onto the hope that it would all automatically be different in 2021.

And there may be signs that we’re nearer the end than the beginning in terms of a vaccine, but we aren’t at the finishing line yet.

So, short of a higher power taking the disc out, blowing on it and putting it back in, we should prepare ourselves for the mad ride to continue, at least for now.

The eventual US presidential handover, the end of furlough in April and the vaccine rollouts all have the potential to keep the markets guessing. 

Throw in the post UK-EU divorce details and there is good reason for us to expect market volatility in the year ahead.

Here are five ways I’ve learnt to cope with the ups and downs, and prep the war chest, before volatility rears its head.


1. Don’t feed the beast


One of the things we aren’t very good at is making decisions under pressure. 


The trouble is that we feel compelled to do exactly that when market volatility strikes. 


It brings fear, excitement, anxiety and a host of other emotions into the investing process at a time when they just aren’t welcome.


So, before 2021 gives our pulses cause to race, remember that volatility is a normal part of investing.


It’s to be expected from time to time and is the price we pay for the long-term historical outperformance of shares over cash.

 

And, as investors, we actually need it. Volatility is what allows shares to rise too, it’s not just a word to describe the down days. 


When things get choppy, try not to react rashly. Take a step back and remember this is what we all signed up for.


Helping yourself to understand that now means you are less likely to rush into emotional decisions later.


2. Diversify


It’s important that we realise the narrative behind our investments won’t always play out as we expect. It might take longer, it might be choppier or we might have just got it wrong.


That’s why holding a range of stocks with different prospects and external influences makes sense at the best of times. 


But 2020 showed why it’s useful to diversify between uncorrelated asset types too. 


Alternative assets like gold grew in popularity last year as the market demonstrated sometimes whole asset classes can suffer, not just individual companies.


So whether it’s a case of redefining your appetite for risk or having a look at how your portfolio is set up to deal with a shock to stocks, don’t forget about including assets which act differently to each other.


3. Don’t get too buoyed by a gain, or too distraught at a loss


A good investor will try to stay measured no matter what is happening around the world, or in their portfolio.


If you start punching the air when the screen turns green you’re attaching too much emotion to your stocks. 


Excitement like that could also be a sign that it was a surprise or your short-term punt paid off. These are more common occurrences among gamblers, not investors.


Being held to ransom by your emotions also means you’re likely to get toppled off that pedestal pretty quickly if the opposite happens.


Thanks to behavioural economics icons Richard Thaler and Daniel Kahneman we know that we are likely to experience the pain of a loss twice as much as the joy of a gain.


Do your research, stay calm and keep the long-term journey front of mind.


4. Manage risk, plan for opportunity


When the police arrive at the house party, sometimes even the nice kids get nabbed. 


In the same vein, when volatility strikes a whole market or sector, sometimes even the good companies are taken down by the crowd. 


That’s when it pays to already have your shopping list at the ready, so you can snap up the stocks you like at bargain prices.


Of course, we don’t know what will cause the next pullback and it might be that your prospective companies start to lose their shine. 


If not, it can be a good chance to finally build a position for the long term.


A lot of price-conscious professional investors have their wishlist at the ready so they can assess the damage in a downturn quickly and decide if it’s time to invest or walk away. 


And that applies to the stocks you currently hold too - is it a chance to buy more of what you like, or sell?


Remember though, keep emotion to a minimum by doing as much of the work beforehand as possible.


5. Conduct a pre-mortem


Warren Buffett has always advocated that if you aren’t ready to see your portfolio drop by 50% you aren’t ready to invest.


So put yourself in that position now. Imagine your investments have suddenly halved and get a plan of action together. 


It might be that you know you’re likely to panic so write yourself a clear and concise reminder of what the calm version of you wants the panicker to do.


Interrogate your stocks now too. What might cause them to plummet? Are you happy taking the risk now, given that possibility? Could you realistically cope with that? 


The answers here will depend entirely on you, and the kind of stock, whether it’s a pharma company pinning all its hopes on a drug trial or a steady compounder slowly growing revenues.


Having the conversation with yourself now could be one less thing to think about later. 


It’s unlikely you’ll be able to predict the future in detail but simple guides for your future self on staying calm, reassessing your holdings and looking at any weak points in your portfolio now, or companies you’d like to add, can make volatile periods more manageable.

Important information


This should not be read as personal investment advice and individual investors should make their own decisions or seek independent advice. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication.


When you invest, your capital is at risk. The value of your portfolio 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 results.


Freetrade is a trading name of Freetrade Limited, which is a member firm of the London Stock Exchange and is authorised and regulated by the Financial Conduct Authority. Registered in England and Wales (no. 09797821).


Important Information

This should not be read as personal investment advice and individual investors should make their own decisions or seek independent advice.

When you invest, your capital is at risk. The value of your portfolio 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 results.

Eligibility to invest into an ISA and the value of tax savings depends on personal circumstances and all tax rules may change.

Freetrade is a trading name of Freetrade Limited, which is a member firm of the London Stock Exchange and is authorised and regulated by the Financial Conduct Authority. Registered in England and Wales (no. 09797821).