By AndrewWelsch
Sept.20, 2022 2:20 pm ET
Investors have their work cut out for them this year, with markets tumbling and inflation soaring. The Fed looks set to impose another large interest-rate hike Wednesday, and Treasury yields are rising rapidly—which means more red ink for bond portfolios this quarter. But an uptick in volatility is not necessarily a bad thing—there are opportunities to be found even in this whirlwind, advisors say.
Their counsel is part of the Big Q, our weekly feature where we pose difficult questions to financial advisors. For this week, we asked advisors: What investment strategies are best when markets are volatile?
Courtesy of Horizon FinancialGroup
Pete Bush, CEO and Partner of Horizon Financial Group, Cetera Advisors: Volatility gives you a chance to rebalance. Netflix , Amazon , may have gotten beaten up, but they are still good companies. You may say, “Hey, the company isn’t worth that much.” But then the pendulum kind swings too far in the other direction.
You can also do Roth conversions. Let’s say you’re one of those people who was thinking about doing a Roth conversion. Well if you get some volatility, then that tends to push them over the edge.
[With our retiree clients] we try to go into retirement with a couple years of reserves. They have a buffer to wait out market downturns. This is kept in relatively liquid investments, such as money markets. Any time horizon longer than five years, we like to invest that money. Even as a retiree, some of your money is long term. If you’re 62 and you only expect to live to 82, well that’s still a 20-year time horizon.
Brian Firring, Private Wealth Financial Advisor at Wells Fargo: We’re doing a lot of tax loss harvesting. We use Parametric [portfolio management tools]. Basically, you can carry losses forward to use in future years. Markets can be up or down, but this is why we use this strategy so that when things turn around, as they always do, you’ll be happy [you took these offsetting losses]. We’re pounding the table on this. The majority of clients get it. Others have a blind spot.
I am having more productive conversations now during this volatility. I can tell clients that three years ago when we were down during Covid, we harvested those losses. So, they’re more enthusiastic about it because they’ve had experience with it. They see we’re banking losses.
Mark Shepherd, CEO of Shepherd Financial Partners (affiliated withLPL Financial): The portfolios we had a year or so ago were different. As we saw the business cycle change and were entering the retraction phase, we started moving toward more of a value bias. So as we entered this year, we reduced our allocation to growth and moved to de-risk portfolios. We reallocated bond assets into more alternative investments that would offset the risk of rising rates. Now, we’ve started reducing our exposure to alternative investments and we’ve started allocating back a little bit to equities.
This is a good time for people who have extra capital to put it to work and make it so it dovetails with their short-term,mid-term, and long-term goals. We’re not committing all our risk assets at once, but we will dollar-cost average as we go through the cycle. Growth assets have really sold off the most. [And] there is a tremendous amount of dislocation in small-cap and even mid-cap companies.
Knowing your financial plan is extremely critical. You want to invest according to your plan, not just invest for investing’s sake. Therefore, your decisions about where you are invested should reflect whether you need the money or don’t need the money in the near term. If you don’t, you can stay the course.
Fraley Turnipseed, Financial Advisor at Raymond James Financial: For clients with new money to invest, we are strategically allocating. You want the broader allocation correct to begin with, and then make small changes within that model. For example, we’re reviewing our exposure to international. Europe has some serious issues. The majority of companies in the S&P 500 have international exposure because they get a lot of revenue from overseas. So you take that into consideration when determining your international exposure.
We’ve also done a significant number of Roth conversions, taking advantage of accounts being lower in value. It’s about what tax rates will be going forward and whether there may be limitations placed on who can do a Roth conversion. So with some clients, we have decided to take advantage of a conversion now because of what their tax liabilities may look like in the future.
Matt Papazian, Financial Advisor at Wealth Enhancement Group: When you are driving down the highway, you look a mile down the road. In investing,you should also be looking at the long-term horizon. If this is money you need in the next six months, then it’s not money for investing. Our job as advisors is to remind [clients] that time is the best thing to smooth out volatility. You will have days when 100 stocks in the S&P 500 are down. When thingsl ike that happen, people forget about their investing horizon.
Over the long-term,we know that there will be inflation, whether it’s 3% or 6%. Bonds are a reasonable part of a person’s portfolio. But they won’t generate big returns. You need to invest in [good] companies because they will increase their dividends and earnings. That means owning stocks. And they will go up and down on any given day. But if you believe that in five years, Apple , Nike , Coke , Amazon and others will be around, then they will likely be higher. They will help protect you from inflation more than bonds will. That’s why we have to keep people looking down the road, but it’s hard to do.
Kent Pearce, Financial Advisorat Merrill Lynch: To use a football analogy, we tell our clients how important it is to have a complete team. Too often, investors get too top heavy in offense or defense. You need a globally diversified portfolio of correlated and uncorrelated assets, covering your investments, your real estate, and other assets. And it needs to be customized to each individual client.
We as advisors need to take a stepback and clearly be on the same page with our clients about their objectives,l iquidity needs, and any other financial circumstances. Volatility is our friend, not our enemy. It helps us achieve long-term appreciation. If we’re on the same page about that, then the day-to-day, week-to-week, and month-to-month volatility tends not to affect clients as much. Over communicating is a huge focus for our team.
Gerry McGinley, Financial Advisor at UBS: The way my team and I think about volatility is in terms of investment risk. When volatility goes up, the dispersion of expected returns for the client gets wider. A lot of our clients are wealthy, so we try to provide clients with downside protection. One area where we have had success is with private credit funds. The idea is that private credit funds lend money to underlying companies; often the loans are floating rate, so as interest rates go up, the rate the client receives goes up.
Another idea is structured products. They’re originated by investment banks and they use derivatives. As volatility goes up, the yield structured products generate can go up. They are not risk-free. It’s essentially a corporate bond issued by a corporate bank. The credit rating of the issuer is important. They are appropriate for the right type of client. The investor should be sophisticated and they should know what they are getting into.
Editor’s Note: Answers havebeen edited for length and clarity.
Write to AndrewWelsch at andrew.welsch@barrons.com