Client-facing communications around the market downturn

As you would have witnessed over the recent period, investment markets have been extremely volatile. We wanted to take the opportunity to provide you with some context and emphasise the importance of reflecting on investment fundamentals during such challenging times.

In this regard, we wish to provide several important insights from highlight of commentaries just released by Fortnum’s leading Approved Asset Consultants; Innova, Mercer and AZ Sestante which are summarised below.

1. Innova Asset Management points out that:

“Throughout history, there are many supposed truths which are attributed to markets, but we think the most pertinent are:

  • Robust portfolio construction will deliver risk-adjusted returns in the long run
  • Valuation should be the ultimate driver of buying/selling levels
  • Future returns are what matter – current prices are already realised

That last point bears repeating – attempting to pick the bottom is an inconsistent and often dangerous practice, and will likely only lead to realising a capital loss without participating in the recovery and upside. Looking forward at future returns and making educated investment decisions based on fundamentals is what preserves capital in the long run.

To put this another way, there is a far higher probability of an investor maintaining their capital if they remain invested despite market volatility, than the likelihood of an investor timing the market and re-entering at the bottom.

Consider the scenario below of one investor who has remained invested in the S&P 500 since 1990, versus another who exits the market for a year, every time stocks fall 8.4% (2 standard deviations) or more – lending credence to the saying, “it’s about time in the market, not timing the market.”

2. Mercer Australia notes that:

“Risks continue to accelerate with rapidly rising inflation and tightening monetary policy. However, the latest sell-off on financial markets has created a disconnect between economic fundamentals and market direction. As past experience has demonstrated, exiting markets in these times should be avoided. Rather, maintaining long-term investment strategies and remaining cautious on overall positioning remains the best path to ensure that long-term wealth is accumulated.

In volatile times, it is important that investors ensure their portfolio diversification and governance processes are robust by having diversified return drivers, to provide inflation protection and to make portfolios robust to a wide range of plausible future scenarios across all asset classes.

In a diversified portfolio, now is the time to consider the role of fixed income in your portfolio and to ensure that your fixed income exposures have sufficient alpha drivers that offer some offset to growth. Whilst Australian Government bonds look expensive relative to long-run averages, they have become attractive in the short-to-medium term given current market dynamics.”

 3. AZ Sestante highlights that:

“The market estimates that the Australian cash rate will be at 3.6% by year-end and at 4.0% in the US. However, we do not believe that the Australian economy can stand such a large rise in such a short space of time.

The Australian consumer is very sensitive to the impact that a rise in interest rates has on their mortgage cost and we believe that consumer spending will slow down significantly well before the cash rate reaches 3.6%. It is fuel, energy, food, and multiple other areas that are feeling the impact of inflation, all of which will slow the economy and stimy inflation. The RBA has been slow to react and now must catch up.

Positively, China is coming out of its Covid lockdown and has embarked on a strong stimulus package to revive the economy – which should continue to support the demand for Australian commodities, which is good news.”

In such a challenging market situation, there is no simple answer though a common theme is understanding similar previous episodes in economic history and how current trends are evolving. Staying invested in an appropriately diversified portfolio and avoiding trying to time the market (fleeing to cash) are conclusions that cannot be emphasised enough.

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