Take the win: is it time to de-risk?
The past couple of years have been extraordinary for the US stock market, and the recovery in developed markets in general has really seemed to take hold in 2024. Some might be saying that you can’t afford to miss this period of growth. We think you in times like this it is prudent to be a bit more cautious.
Driven mainly by the performance of a few big winners like Nvidia and other tech giants, the S&P 500 index of the top companies in the USA looks on course to return 20% for the second year in a row. This is an extremely rare occurrence that we last saw in the late 1990s, leading up to the dot-com bust at the turn of the millennium. Before that, we need to look back all the way to 1955 and 1936 for a similar parallel in the United States, but the world was much less connected in those days. Bond prices have recovered from their inflation-hit lows and storage assets such as gold and bitcoin have been climbing steeply at the same time as it seems that everyone is jumping in to the market with both feet.
With such attractive potential gains on the table, it can be tempting to fall prey to acute FOMO, but just pause and take a breath.
Some observers think that US tech is overheating; Others point to geopolitical worries in Eastern Europe and the Middle East; Some are concerned about economic issues in the BRICS. Whilst all of these are valid, there has never been a period in history when everything was rosy and cozy. This could all just blow over and be right as rain, but… what if…
Take the win.
We believe it could be time to consider reallocating some of the returns you have made this year and looking towards more conservative assets, while others chase the hype.
A big word of warning here: We don’t know anything that the rest of the market doesn’t. There is no crystal ball. We could be wrong. The US markets could keep climbing for another couple of years, followed closely by other regions and stimulating a return to growth in the wider global market. The ‘Trump bump’ that appeared after the US election results last week could be just the beginning of a period of growth driven by deregulation, but just hear me out on the what-ifs:
If your portfolio loses 20% of its value, it needs to make 25% growth to recover to where it started. If you lose 30%, it requires 43% growth to be back at par. 40% down needs 67% to climb back up and so on. This is why Warren Buffet chooses to be “fearful when others are greedy and greedy when others are fearful.” You shouldn’t be cashing in all your chips and fleeing to cash right now as you will still be losing spending power over time and the return on cash holdings is back down to miserable levels after a brief period of savings account generosity during the recent period of high inflation. Instead, think of derisking through diversification.
Reducing your exposure to growth equities and including more bonds, commodities and dividend stocks could be really sensible right now. Holding a bit more cash might be good, but understand the risks (inflation, currency, tax etc.) associated with that, too. The most important aspect, however, will be the in the scope of your targets.
If you are an aggressive investor with a reasonably long time-horizon for your investments, you might feel that the potential for further gains from markets that are going gangbusters is well worth the short-term risk of a downturn. If the thought of a nosedive in the value of your portfolio – however temporary the pain – sends shivers down your spine and keeps you up at night, you should be speaking with your financial advisor about consolidating some of your positive returns into something less volatile.
The one absolute in investing is that what goes up must come down, and what goes down, will come back up again. The end of that cycle would mean the end of capitalism, so investing would become little more than an academic exercise. With that in mind, you need to think whether your appetite for the up is enough to balance your acceptance of the down.
Here are three key metrics to see if you should be de-risking right now:
Would a drop of 20% or more in the value of your portfolio in the next 12 months cause significant harm to your financial situation?
If the markets crashed next week, would you be reluctant to invest over the next couple of years rather than seeing it as an opportunity?
Do you prefer stability in your investments over big potential gains?
If you answered yes to any of these three questions, it’s time to reel in the volatility a bit. Contact us at Black Swan Capital to see how we can help.
