Market Unrest

 

‘Crash’ is a dramatic sounding word – add it to stock market and it becomes financially worrying, even to those who aren’t all that interested in finance. Then there are the press commentaries that use descriptive words like ‘slide,’ or ‘plunged,’ or ‘fall sharply,’ in reference to financial markets.

 

All these words have been bandied around of late. It began when markets reacted badly to news of the sub-prime mortgage crisis in the America. Then, the crisis in credit markets developed and banks across the world began to realise this was not just a US problem. Most recently, oil and food prices have escalated, pushing inflation up and adding to the pressures on already hard pressed consumers.

 

The worry at the outset was the American consumer and what impact lower spending would have on the rest of the world. On many occasions, equity markets went into freefall as shareholders, traders – and hedge funds – went into overdrive, dumping their investments in fear that profits would fall further than anyone had expected.

 

However, just as markets began to get over the worst of those fears, they were hit by a second wave of worry, brought on by rising oil prices and increases in the prices of some staple foods. In the past 18 months, the FTSE 100 index has hit both its highest level since the end of the tech boom and, very recently, its lowest level since the tentative recovery days of 2005.

 

In fact, financial markets have been very extreme since July last year - and any piece of bad news, it seems, sends more jitters through investors. Since the beginning of the crisis, we have seen the nationalisation of Northern Rock, the take-over of Bear Stearns, several interest rate cuts, profits warnings from retailers, a disappointing rights issue by HBOS, spiraling oil and food prices and, as a result of the latter, the re-emergence of inflation as a negative force.

 

The high level of financial volatility is likely to continue, possibly for a number of months yet and the Bank of England has indicated it expects inflation to top 4% for a while. Just as, in a positive environment, markets generally over-inflate prices, in a negative environment they depress them. The problem at the moment is no-one knows who is going to be affected next – so investors are avoiding everyone, just in case.

 

Analysing the whys, however, does not answer the questions for you and investors like you - which is most likely ‘Will it fall further and if, so, shouldn’t I just sell and take my loss?’

 

The first part of this question is almost impossible to answer. The future is never guaranteed in equity markets, although there will be many commentators arguing both for why it should fall further and for why it will soon return to its upward trajectory. Some of them will be right but, to be honest, we have no idea which ones.

 

The latter part is easier to address, however. Volatility and market surprises are at the heart of equity investing and these most recent events really serve to highlight that point. It should also remind you of the benefits of financial diversification and of making sure your investment portfolio is set up to deal with such events.

 

Good portfolio planning is vital to stop you having to pull money out of the market at times when things look bad. If you are forced to do so – particularly now, when markets are already way down from their highs – you consolidate your loss and feel the pain. If the markets then rebound, after you have withdrawn, you miss out on the rise, making your pain even more acute.

 

However, if you have a widely diversified portfolio and adequate reserves to draw on when emergencies hit, you can stay invested and sit back, waiting for normality to return. Yes, if markets fall further, you feel more pain and may have to wait longer before your investment gets back to where it was - but at least you are giving it the chance to happen. If you pull out, your money is definitely lost.

 

Equities and equity-based funds should never be considered as short term investments. If the ups and downs of the last months are too unnerving for you, then you should perhaps think about moving some, perhaps all of your equity holdings into other less volatile asset classes. The upside potential long term may be lower outside of equities but the downside, particularly during periods like this, are also lower.

 

The best financial advice is to take a step back and remember why you made your investment – and be comforted with the thought that, if your portfolio is balanced and your needs are unchanged then for the long term investor, this news should be nothing to get too worried about.

 

However, if you have some short term worries, or would like to reconsider any part of your investment allocation, please do not hesitate to give me a call on 01724 330088.