07/3/2020
18:58 | What to do in a market sell-offBy Dave BaxterInvestors chronicleManaging Your Money yesterdayAlthough the exact impact of the coronavirus could take months or even years to quantify, the spread of the disease has already been treated as a wake-up call by many investors. In late February, stock markets suffered their worst week since 2008 as the virus made significant advances outside of China. The S&P 500 index, which had recently hit a record high, registered double-digit losses. Other equity indices such as FTSE All-World endured similar falls.Before the recent sell-off, markets had drifted upwards since the beginning of 2019. This is a good reminder that investing â" especially in equities â" comes with both ups and downs. But such severe levels of volatility can be difficult to handle. Seeing your portfolio holdings deep in the red and news reports about the âtrillions wiped from stock marketsâ? can prove unnerving.Independent financial adviser Informed Choice notes that such events are often overwhelming â" even for investors familiar with the long-term nature of investing. âReassuring words about how market corrections like this are part of the normal investing cycle probably do little to ease that feeling of discomfort,â? said the company.And such discomfort can lead investors to make rash decisions such as selling out of a falling market and buying back in later at a higher price. These mistakes can prove costly for your portfolio, meaning that staying calm is key. And it is even more important to have a plan for when markets appear to be in freefall â" whatever your ultimate investment goals. A few simple rules could prevent you from losing a lot of money.Feeling adventurous?Before reacting to a market crash you should view the recent events in a longer-term context. Although a sell-off may expose vulnerabilities in specific areas of your portfolio at the time, markets tend to recover and drift higher over longer periods of time. Rob Burgeman, senior investment manager at Brewin Dolphin, says that the events behind a sell-off could spell longer-lasting problems for a few specific sectors. For example, the falls at the end of February might mean that holiday companies need some time to rebuild consumer trust in the wake of the coronavirus spread. But despite any near-term sector-specific problems, good holdings should hold up over the longer term.âGood companies do not turn into bad companies overnight â" or at least rarely,â? explains Mr Burgeman.You should then reflect on your investment goals and risk appetite. If you have a long-term investment horizon and a higher risk appetite, heavy selling in markets could in fact be a cheaper way in.âUnless somethingâs fundamentally broken I would use a sell-off as a buying opportunity,â? says John Monaghan, head of research at fund ratings and investment provider Square Mile. âYou get more for your money, whether you buy directly or via funds. If you have a good tolerance for risk, and at least 10 to 15 years [until you need your money], itâs attractive to get in.â?But although âbuying the dipâ? is a simple enough concept, the practicalities can vary. Making monthly contributions to your portfolio is generally a good way to balance out the ups and downs of markets, because you are likely to buy throughout the cycle. If you believe that volatility might last for some time and can afford to do it, upping your regular contribution to take advantage of lower markets could pay off.If a market drop is short-lived, the timing of a monthly contribution may mean that some investors miss the dip and put more money into markets after they have recovered. So consider investing a lump sum to capture low valuations.âIf youâre comfortable with volatility and have surplus cash to invest, topping up your portfolio during large dips in the market is likely to make you money over the longer term,â? says Justin Modray, founder and director of Candid Financial Advice. But he emphasises the importance of taking a longer view, given the difficulty of timing market moves.âAccept that you canât predict the bottom of the dip, and acknowledge that even if [the market falls] further after making an investment you still bought at lower than pre-dip prices,â? he says.Periods of market stress might be a good time for budding investors to put cash to work. Hayley North, chartered financial planner at Rose & North, stresses the importance of moving quickly.âIf you are not already invested, you are in a better position than almost everyone else and the advice would be not to delay,â? she says. âThere could well be further corrections and it is likely to be a bumpy ride, but you now have an opportunity to buy what you would normally buy at lower prices.â?But she warns investors not to put themselves under financial strain in pursuit of future gains. âIf you canât afford to invest more right now, or investing will leave you short of emergency cash, donât do it," she advises. "A bargain isnât a bargain if it doesn't fit in with your goals or puts you under pressure."How to buy the dipIf you decide to invest during falling markets there are different ways to access them. You could invest directly in shares, or buy active or passive funds. Your investment knowledge, sophistication and preferences will dictate which route you take. But whichever way you buy the dip, always invest in securities that look fundamentally attractive rather than just cheap.If you already have equity investments you could top up your favourite holdings, as long as the circumstances behind the sell-off have not undermined the investment case for them.If you expect a broad market to resume its upward trajectory over the longer term, buying a passive fund is one way to make sure you have exposure, although some analysts argue that it may leave you more exposed to short-term volatility. Active funds can give you targeted exposure, but require more research. It can be difficult to know which active managers are taking advantage of a sell-off and which ones have made the right calls.Mr Monaghan monitors various kinds of equity funds, but not all of their managers will necessarily buy into market weakness. He spoke to a number of their managers, including highly regarded investor Nick Train, halfway through the final week of February and they appeared to be exercising caution for the time being.âMost of the managers said that they are not doing anything,â? says Mr Monaghan. âSome were taking a step back and might top up a few holdings after the dust settles.â?Daniel Lockyer, senior fund manager at Hawksmoor, believes that it can be difficult to identify managers who might take a tactical approach in times of market stress. In the case of open-ended funds whose units are cheaper following a week of poor returns, you could do well by putting money into funds whose managers have struggled briefly but hold up better over the longer term.âYou could look for a fund whose manager had a nightmare week but has done very well over the past five to 10 years,â? explains Mr Lockyer. âA managerâs performance [doesn't turn] over the course of a week.â?Dedicated value investors might be more likely to buy stocks that have suffered in a sell-off, and UK equity funds Man GLG Undervalued Assets (GB00BFH3NC99) and GVQ UK Focus (IE0033377494) could fall into this camp.A type of active fund that has been particularly hard hit by the sell-off is investment trusts, of which the shares can often fall even more than the wider market. Many investment trusts' share prices fell by 10 per cent or more in the final week of February, according to broker Numis. These were in a range of different sectors and included equity growth trusts such as Manchester & London (MNL), Schroder UK Mid Cap (SCP) and Smithson (SSON), and resources trusts such as BlackRock World Mining Trust (BRWM).But again, whether you buy into such weakness depends on whether you think the assets the trusts invest in are attractive.Mr Lockyer believes that with equities having made such significant gains prior to the sell-off, this asset class still looks expensive. So he has been looking at trusts that invest in assets that are not correlated to equity markets but where the share prices still fell. These include GCP Asset Backed Income (GABI), which invests in infrastructure but was still caught out in the sell-off.Defensive plays, income and rebalancingWith assets such as government bonds performing strongly in the February sell-off, diversified and defensive investors did better late last month than those with a hefty equity bias. But investors of all stripes should follow a sell-off by rebalancing, even though this may feel difficult if you have a defensive positioning.If equities fall and bonds rise, it will skew your portfolio's original asset allocation more heavily to the latter. So you should rebalance back to your original allocations by selling down a portion of your defensive assets and buying into beaten-up areas such as equities. Rebalancing can be done on a regular basis and is particularly useful following a big market move.James Norton, senior investment planner at Vanguard, argues that this can be a tricky but vital exercise.âFor lower-risk investors, having to sell some of those more defensive assets and buy the stuff that has been tanking may be quite terrifying," he says. "Thatâs uncomfortable, but exactly the right thing to do. Rebalancing is positioning your portfolio for the market rally.â?Defensive investors may wish to review both their level of diversification and what has performed well in the sell-off because assets do not always perform as you may expect. For example, gold tends to do well in times of uncertainty, but sold off at the end of February â" an anomaly some have attributed to certain investors offloading it as an easy way to raise cash. Equity income funds, meanwhile, are normally a defensive play, but generally did little to protect capital compared to equity growth funds. If diversifiers unexpectedly perform poorly in sell-offs it is worth investigating why, and whether they really are cheap or should be removed from your portfolio at some point in future.Market sell-offs are problematic for investors who sell holdings in their portfolios for income, because doing this at the same time as a sell-off could reduce your capital by an amount that could be difficult to recover.âAs an income seeker you donât want to be worrying about your next income payment and selling when the marketâs really low,â? explains Mr Norton. âMake sure you have enough cash or low-risk holdings to cover your income requirements for a period of time you are comfortable with, such as 12 months. It could be that you have 12 months of payments in short-dated bonds. Thatâs reasonable, but if you always run a high level of cash it will have an impact on your long-term returns.â?Investors seeking an income should also consider buying the dip because with yields rising as prices fall, sell-offs can create a cheap entry point. | 
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