Buy-and-hold may not be best right now
Coronavirus sell-off poses new challenges
Correcting equity markets have left many wondering what to do with their investment portfolios. It seems as though the prevailing advice from those in the wealth management industry is to simply ride out the market’s woes and wait for it to recover to recoup any losses.
However, depending on how one’s portfolio is constructed we’ve found sitting tight may be exactly the wrong thing to do as there may be irreparable damage done especially in such volatile periods. In our opinion, these are the times when a portfolio manager can really earn their stripes by actively finding ways to strategically reposition and take advantage of opportunities while risk-managing the near-term volatility.
This can be a difficult balancing act and having a plan of attack is crucial.
One strategy that we’re fans of is what we call the neutral-zone trap.
We are borrowing the name from hockey, in which “the trap” is a tactic in which three to four players position themselves in the neutral zone with one or two of them selectively entering the offensive zone looking to take advantage of an error by the other team. Generally, the trap is a defensive strategy that teams use to protect a lead.
In regards to managing a portfolio, our version of the trap aims to protecting against large market declines by remaining well- diversified. This doesn’t mean you shouldn’t go on offence, but rather pick your spots by avoiding excessive risks, such as timing the bottom or catching falling knives in sectors that are under turmoil ( energy right now, for example).
To have an effective neutral zone portfolio, there are a couple of important factors to consider:
❚ Make sure you have a strong defence
Buy- and- hold has been a hard pill to swallow, especially for those who invested in Canadian stocks at the wrong time with the S&P TSX trading at right back to 2006 levels and fast approaching 2000 highs. This means for some it has been nearly two decades and no returns.
However, for those well-diversified and invested globally this didn’t happen as U. S. stocks and government bonds experienced a different return profile than that of Canadian stocks. While there may not be much return left on government bonds and we prefer to hold cash at this point, we think there is still lots of room to diversify into global markets, especially the U.S.
For example, holding U. S.- dollar- denominated assets has really helped the defensive side of a Canadian portfolio with the USD gaining over 10 per cent this year against the loonie. That said, we believe the Canadian dollar could continue to move lower not only against the U. S. dollar but other currencies as well, especially should oil prices trade at or below current levels. Therefore, it isn’t too late for those solely in Canadian stocks to start exploring diversifying one’s portfolio by including some U. S. equities or even beaten up EAFE and emerging markets.
❚ ❚ Selectively go on offence
There are segments of the market that we think currently offer a compelling reward-risk ratio. One such area could be investment- grade corporate bonds where investors are fleeing at a record pace sending yields much higher and prices much lower. In particular, last Wednesday’s rush of selling in corporate bond ETFS resulted in some bonds gapping down considerably as much as five per cent in one day. As a result, we’ve seen some bonds on Canada’s top companies fall as much as 19 per cent this year back down to levels not seen since the 2008 financial crisis.
That said, we have been avoiding the high- yield debt market because, unlike many investment- grade bonds, some of those issuers may not survive a prolonged economic impact from the coronavirus.
There are many other areas where we are noticing similar reward- risk opportunities in this current market environment. Having a well- balanced neutral zone portfolio that is risk- managed the near term also means there can less anxiety about taking advantage of some of them.
But one thing is for certain, now is not the time to sit back and do nothing.
Martin Pelletier, CFA, is a Portfolio Manager at Wellington- Altus Private Wealth Counsel Inc. ( formerly Trivest Wealth Counsel Ltd.) a private client and institutional investment firm specializing in discretionary risk- managed portfolios, investment audit/ oversight and advanced tax and estate planning.