Join our community of smart investors

PF Matters: Do nothing

Things may look bad, but one of the worst mistakes investors can make is selling at a loss
June 30, 2016

Markets are tanking, Sterling has hit its lowest level against the US dollar since 1985, and the British government and opposition seem to be crumbling away by the hour. No one knows what relationship the UK will have with Europe in the coming years - or if there even will be a UK. The prospects for the UK economy don't look good and how UK companies fare amid all this, remains to be seen.

But one thing is certain for investors: uncertainty for months or years, and as markets don't like uncertainty, lots of volatility too.

While no one has a clear answer as to what will happen, there are some sensible courses of action you can take to manage your portfolio through this chaos in the best way possible.

First of all, don't panic. "This leads to making quick and often irrational decisions such as selling after the market has fallen," says Adrian Lowcock, head of investing at AXA Wealth. "Investors need to remember that, in the short run, markets over-emphasise the importance of current events while they barely register over the long run as markets revert back to fundamentals."

So a good course of action could be not to take action - do nothing. Selling at a loss is detrimental - a classic investor mistake is to sell low and buy high, when you should be aiming to buy low and sell high.

"The best days in the stock market very often follow hot on the heels of the worst ones, and missing these rallies can seriously compromise long-term investment returns," explains Tom Stevenson, investment director at Fidelity International.

"We calculate that missing just the 10 best days in the market over the past 30 years would have reduced the annualised return over that period from 8.8 per cent to just 6.6 per cent. That might not sound much but it has the effect of reducing the cumulative return from 1,168 per cent to 572 per cent, a massive difference."

"Markets will bounce back at some point, and investors who switch to cash risk buying back into the market at a higher level, and ending up in a worse position than if they had just stayed put," adds Laith Khalaf, senior analyst at Hargreaves Lansdown.

If you invest you must take a long-term approach and expect periods when the value of your investments will fall, which you must be prepared to ride out. If you invest in equity-focused investments you should have a long-term investment horizon of at least five years, and preferably longer.

When there is volatility and returns are lower, make use of all your tax-efficient allowances, and ensure your investments are organised in the most tax-efficient way possible, suggests Angela Murfitt, chartered financial planner at Fairstone Financial Management. If you save on tax then your investments won't need to make as much to meet your goals.

 

Beware 'bargains'

Periods of market volatility can provide the opportunities to pick up bargain, e.g. buy low. But proceed with caution. A bargain is only a bargain when you buy something for less than it is worth, or what its price might be in future. Listed investments such as investment trusts and shares may be at lower prices fall relative to a few days ago, but there is no guarantee that they will rise again. There is also nothing to say they won't fall further - trying to time the market is very hard.

If you do decide to buy something after carefully evaluating its potential, only do this if you have a long-term investment horizon. The turbulence could go on for some time, and "the UK stock market is likely to have a Brexit discount for sometime, as politicians try to thrash out an agreement with the European Union," says Mr Lowcock

Even if an investment looks attractive don't buy if it doesn't fit in with your investment objectives or upsets the overall balance of your portfolio. Investing is not about randomly picking and choosing investments that look attractive, but about setting a goal or objective, and then an asset allocation to meet that. You should not add investments that don't fit in with that asset allocation or your risk profile.

"At times like this it is sensible to take a deep breath and focus on your long-term investment goals," adds Mr Stevenson.

If you do buy 'bargains,' Ms Murfitt says should you only use a small percentage of your portfolio for this.

If you like to speculate and have a lot of money, you could set aside a small portion of your money that you can afford to lose, and don't need for your current or future income to do it with - a 'play portfolio.'

We will be assessing different investment areas over the coming weeks, both from the point of view of what is a safe haven and what may be a good bargain, such as this week's fund tip.

Diversity

One of the best ways to address severe market volatility is to have a diversified portfolio spread across various assets, which are not highly correlated to each other. "You should spread your money across different assets such as shares, fixed interest, commercial property and cash, so you can benefit from long-term stock market growth but also provide some protection for your portfolio," advises Patrick Connolly, certified financial planner at Chase de Vere.

Investments paying an attractive level of dividends or interest can also be a good option, adds Darius McDermott, managing director at Chelsea Financial Services. Even if the prices of the assets are falling, you are at least getting some return from dividends or interest.

If your portfolio is already well-diversified then great, but what should you do if your portfolio is not well-balanced? Rebalancing could mean having to sell existing holdings - and if you do that just now you could incur a loss.

Ms Murfitt argues that if something is not right for your portfolio in the first place then you should rebalance. She also says that if you sell something at a lower price relative to what you bought it for, then in current conditions you may be able to redeploy it into something that is also at a low price.

And she says if you sell an asset at a loss you could use it to offset capital gains tax, if you have any to pay.

If you need to rebalance and are still investing regularly, you could also do this by putting all new money into the different areas that you need to rebalance your portfolio, and forego having to sell existing holdings.

Also keep a close eye on the price of the assets you need to sell, and if they swing up to the level at which you bought them, or preferably higher, then sell them.