How advisors manage market volatility

Market volatility and stock selloffs make for nerve-racking news. On Monday, the S&P 500 had its worst day since the financial crisis. However, advisors are taking the market chaos in stride.

Evan Turner, a financial advisor at Nicola Wealth in Kelowna, B.C., says he hasn’t fielded many extra client calls as a result of the increased volatility.

When he does talk to concerned clients, he reminds them of their original goals and asks whether those goals have changed. Typically, they haven’t, he says.

He also reminds clients that market volatility is nothing new, and that they held steady during previous drawdowns.

After the conversation, “we continue on” with the client’s investment plan, Turner says.

Nor is the phone ringing more than usual for Margaret Samuel, president, CEO and portfolio manager at Enriched Investing Incorporated in Toronto.

“We haven’t been getting calls from clients,” Samuel says, nor does she expect to. “We try to manage expectations.”

Most of Samuel’s clients have been with her for five to 10 years, she says. They know from annual meetings that, when markets are bullish, some of their portfolio profits are used to increase cash allocations to take advantage of buying opportunities when markets drop.

Still, faced with the continuous news cycle, clients might need some hand-holding because of the most recent global threat — the novel coronavirus.

“There’s a lot more information or perhaps disinformation — or maybe fear-mongering even — available to the end client,” says Steve Locke, senior vice-president, portfolio manager and head of the fixed income team at Mackenzie Investments, referring to such things as the coronavirus and trade wars.

“A good advisor has a huge place in delivering value to clients” by easing the tension created by information overload and shepherding clients through their medium- or longer-term investment strategy, he says.

A solid portfolio in today’s volatile market shouldn’t look much different than it did a year or two ago if it’s been aligned correctly for the client’s risk level, Locke says.

Portfolios that persevere

A pre-retiree may be especially concerned about volatility and its negative effect on capital protection. Turner says he avoids putting such clients in a position where they have substantial fluctuation in their portfolios.

While some clients think capital can be protected in a high-interest savings account, “we also have to concentrate on purchasing power” and inflation, Turner says.

To achieve needed returns for retirement and dampen volatility, his firm uses various asset classes and diversifies risk across asset types. The result is a portfolio with consistent cash flows and less volatile returns, Turner says.

Specifically, the portfolio of a typical pre-retiree (10 years to retirement) at Nicola is about 17% fixed income (including 4.5% high yield and some preferred shares), 25% private real estate pools, 21% private assets (such as mortgage pools), 6% alternatives (a combination of multi-strategy hedge funds and a precious metal fund) and 31% public equities.

Samuel says some pre-retirees who have amassed the assets required for retirement will move entirely to cash or fixed income. “They’re close to retirement, they have enough money and they don’t want to risk any of it,” she says.

Some clients will also move RESPs to cash a couple of years before children attend university, she says. “We know they’re going to need it, and we don’t want the market volatility.”

For other pre-retirees who require growth, a portion of their portfolios normally allocated to fixed income is invested in dividend-paying stocks instead, because of low yields. The strategy also addresses longevity risk.

“You shouldn’t be in fixed income if you think you might not have enough to last until you’re 95 or 100, and you don’t need all of the cash in the next five years,” Samuel says. She suggests investors be “selective but prudent in allocating to good equities that are also paying dividends that increase over time.”

She also says some profits were taken on the equity side over the last couple of years and put into a cash equivalent without a fee and, with rates so low, often better yield.

In the current environment, buying opportunities include pharmaceuticals, consumer staples and consumer discretionary, Samuel says, as people forgo travel in favour of things like renovations. She’s avoiding travel companies and energy.

Fresh ideas for fixed income

Locke warns against inadvertently increasing portfolio volatility.

For example, to address the challenge of the lower-for-longer interest rate environment, advisors may rely on equities beyond a client’s comfort level, he says, or may use a savings product. In either case, “you’ve increased the volatility of the total portfolio,” he says.

If equities drop in a client’s pre-retirement phase, “you want a bond product that goes up in price at that moment to reduce total portfolio volatility,” Locke says. With a GIC, “you feel more of the downside of your equity allocation at that time.”

His firm offers a few fixed income strategies. It employs an active core plus strategy across the fixed income sleeve of the firm’s balanced funds, which allows for additional types of yield such as emerging market debt, high yield or floating-rate loans.

Unconstrained strategies try to deliver low volatility by not being aligned with a particular market all the time. Where a constrained strategy invests in riskier assets, like high-yield bonds or floating-rate loans, downside protection is provided.

“We hold insurance against the downside risk of that market through a derivative strategy that’s always on in the portfolio,” Locke says.

The protection can be explained to clients by comparing it to insurance. “It looks a lot like buying car or home insurance,” Locke says. Further, the amount of protection varies with cost, which can be compared to a deductible.