Build and maintain a well-diversified portfolio – and take a long-term view.

The first quarter of 2020 has been a historic one for the world and financial markets. Concerns around the impact of coronavirus on human health, the global economy and company earnings have led to steep falls in global sharemarkets. The policy response by governments and central banks has since helped markets stabilise. 

The markets are re-evaluating the impact of the virus in real-time. New information on fatalities, job losses, consumer confidence and spending, inflation, earnings, dividends and other factors are leading to large moves in share prices.

Because there are still so many unknowns, it is likely that market volatility will remain high for some time, even if we have now passed “peak panic”. 

Here are five main strategies we are recommending to clients to keep their portfolio risk in check during and after the coronavirus crisis.

1. Ensure your investment profile is up-to-date

Your investment profile defines what type of investor you are and is made up of two parts: investment timeframe and risk profile.

Asking questions about these helps to ensure the strategy taken is suitable and you do not take on too much risk. Regardless of whether you have an adviser or invest on your own, it is important to review your investment profile for any relevant changes, such as a new job or loan.

Keeping your strategy up-to-date gives you the best chance of reaching your goals. It also means not stressing about continually checking you are not taking on too much risk, or too little during high market volatility, regardless of your investment time horizon.

2. Have some government bonds in your portfolio

Another piece of the risk puzzle is the benefit of owning some defensive assets. These generally move in the opposite direction to shares to give your portfolio some cushion. We like high-grade Australian bonds and gold for their proven defensive qualities. These assets help to smooth the bumps and keep you invested throughout the inevitable ups and downs.

Government bonds increased by 2.3 per cent for the quarter while Australian shares fell 20.4 per cent. This is the beauty of diversification into defensive assets. Timing when to get in and out of the sharemarket is difficult but owning defensive assets will help you weather all types of markets.

3. Gold is your last line of defence

Like high-grade bonds, gold typically moves in the opposite direction to shares. Gold helps to improve the quality of the portfolio returns, which means you can earn a similar return with less risk. Gold has also been an effective way to preserve the real value of your wealth because it acts as an insurance policy against currency devaluation.

In late 2017 we increased the gold allocation from 10 per cent to 12.3 per cent for all Stockspot portfolios because we identified the need for more defensive exposure.  Gold has since performed better than most asset classes, including Australian and global shares, notching up a return of 43 per cent over the past year.

An allocation of at least 30 per cent invested in high-grade bonds and gold for growth investors gives the best of both worlds right now – participation in market gains and more protection in any temporary falls.

Even though Australian and global shares have fallen heavily in early 2020, all of the Stockspot strategies still have positive returns over one, three and five years thanks to their allocation to bonds and gold. This helped clients stay calm through market turbulence.

4. Stay invested

It may seem sensible to exit markets and move to cash after seeing the Australian sharemarket fall by 34 per cent in a matter of weeks. At least until things settle down.

It might make you more comfortable in the short term, but moving to cash can be an expensive mistake over the long term. Markets do recover, so moving to cash for an extended period is likely to put you in a worse position.

5. Avoid dividend traps

Finally, we have noticed that Australians have an unhealthy obsession with income from dividends. Income-focused portfolios (high-dividend securities like banks and Telstra, hybrids and high-yield debt) are riskier than owning a well-diversified portfolio, in Stockspot’s opinion.

What you get in one hand (income) you could just as easily lose from the other (capital). There is also a good chance that many dividends will be cut this year. Our advice is to always focus on your total return (income plus capital growth) rather than just income or dividend yield.

When you only focus on boosting income it comes at the expense of growing (and preserving) capital. Australians who have only been invested in seemingly defensive sectors like banks, property and infrastructure during this coronavirus crisis have seen their portfolios fall more than 35 per cent.

Trying to “juice up” the dividends in your portfolio is riskier than you may think, which is why we do not recommend yield-chasing strategies. Stick to a well-balanced portfolio of low-cost exchange-traded funds (ETFs).

In summary

Periods of market volatility such as now are a good reminder of the benefits of diversification across growth and defensive assets, as well has having a long-term perspective. 

Our advice continues to be stay invested and ride out the market bumps with a balanced diversified portfolio. Over many market crises, staying invested has been a more profitable and repeatable strategy than moving to cash until the volatility passes.