Stocks began to swing wildly over the summer, and while things have quieted down a bit, many veterans expect more turbulence ahead.
“I think we’re looking at continued high volatility all the way in to the next election,” said Christopher Hyzy, chief investment officer for Merrill and the Bank of America Private Bank.
This is likely to upset many people who would, naturally enough, prefer to profit from stocks with little stress.
What’s the best response to periods like this?
Many asset managers recommend simple “buy and hold” investing as the best long-term strategy. Certainly it has worked well during the longest bull market in history, now more than a decade old.
A diversified portfolio of assets is the best long-term strategy, said Omar Aguilar, chief investment officer for U.S. equities at Charles Schwab Investment Management. These assets should include domestic and international equities, long-term and short-term bonds, cash and inflation-protection assets like real estate or Treasury Inflation-Protected Securities, or TIPS.
That said, heightened volatility could be trying for bullish investors.
“Volatility is usually correlated with a downturn in the market,” Mr. Aguilar said.
Volatility measures the dispersion of returns for a particular security or index. High volatility is characterized by wide variation in returns — either upward or downward. And by some — though by no means, all — measures, August was extremely volatile.
Consider that there were three days in August in which the Dow Jones industrial average exceeded a 2 percent loss or gain. That’s enough to make August 2019 the 13th-most-volatile month since 1900, Mr. Hyzy said. And the huge swings within trading days — the intraday ups and downs — made the month even more turbulent than the closing daily numbers suggest, he said.
Stress aside, does this matter? Not everyone is convinced that it does.
Daniel Martins, founder of DM Martins Research, said that “generally, volatility is a red flag.” But, the surge this time — no smirking here, please — may be different, he said.
News travels faster than in the past, enlarging the immediate reflexive response. He urges long-term investors to be patient. “Don’t put a whole lot into cash because you’re afraid of volatility,” he said. Just stay the course.
Still, there are other approaches. Craig Lazzara, managing director with S&P Dow Jones Indices, says stocks with histories of low volatility tend to outperform during down markets.
Even over the last 10 years — when bulls have trampled bearish resistance — the S&P Low Volatility Index has done better than the S&P 500 (.SPX). Since the inception of the S&P Low Volatility Index on April 4, 2011, its annualized return is 13.9 percent versus the S&P 500 Index’s 12.3 percent as of Sept. 30. The 10-year annualized return, which includes back-tested data, for the Low Volatility Index is 14.5 percent versus the S&P 500 Index’s 13.2 percent as of Sept. 30.
The Low Volatility Index focuses on the 100 lowest volatility issues in the S&P 500 during the previous 12 months. Mr. Lazzara offers an explanation for the index’s strong long-term performance.
“There does seem to be a tendency for many investors to bid up high-volatility stocks,” he said. “Sometimes these stocks rise above intrinsic value. That’s why low-volatility stocks are a better investment.”
Roughly 100 open-end mutual funds and exchange-traded funds have the words “low volatility,” “minimum volatility” or “managed volatility” in their names, according to Morningstar Direct.
Invesco’s S&P 500 Low Volatility E.T.F. (SPLV) is among the largest, with just over $12.8 billion in assets. Nick Kalivas, a senior equity E.T.F. strategist with Invesco, said, “We’re at the portion of the profit cycle where growth looks like it’s decelerating.” And low-volatility funds, he said, “perform best when economic growth is decelerating.”
Assets in the Invesco fund have grown by more than $2.6 billion in the first nine months of this year, Morningstar Direct reports, and similar funds have attracted investors this year, too. Mr. Aguilar cautioned that, as a result, low-volatility stocks, which include real estate and utilities issues, “look expensive.”
“People need to be cautious,” he said.
Investors seeking an active response to high volatility also have other options.
They can, for example, buy futures contracts or E.T.F.s that track the Chicago Board Options Exchange Volatility Index or (.VIX), which measures expected volatility in the S&P 500.
But timing the VIX is a bad idea for most investors, said Sean McWilliams, a quantitative investment analyst and portfolio manager for separate accounts at T. Rowe Price. He warned that with the VIX, “you have to be very careful” since it “can move explosively.”
In a steadily rising market, taking advantage of sharp but ultimately brief downturns — often termed “buying the dips” — has been a successful strategy. But Mr. Aguilar does not endorse it. “We don’t believe in market timing,” he said. “Time in the market is more important than timing the market.”
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