Will the future be more volatile for equity investors?

By Kent Hargis, PhD| Sammy Suzuki, CFA| Jillian Geliebter, ACIA

Stock markets have been relatively quiet in recent years

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It’s hard to remember how quiet the past decade has been in stock markets. But from a historical point of view, this period looks like an anomaly. If volatility becomes more common in the future, strategies that help reduce downside risk should be an integral part of equity allocations.

Investors are still stunned by the magnitude of this year’s downturn. To some extent, the pain has been amplified by the relative calm of the past decade. Even allowing for the brutal but brief COVID-induced crash at the start of 2020, global equities have been less volatile over the past decade than over the previous 26 years. Our research shows that the MSCI World Index has fallen only 19% of the time over the past 10 years, compared to 27% of the time between 1986 and 2012 (Display, above).

The moderate gains were practically a mirror image of that. About 27% of the time, stocks have risen as much as 10% over the past decade – a historically strong run. Large rallies – with double digit gains – have been seen with similar frequency over the past decade and longer term.

No one knows what the future holds for us. But given severe macroeconomic and geopolitical tensions as well as less central bank support, it doesn’t take a stretch of the imagination to see more volatility in the next 10 years than in the recent past – in line with longer-term trends. .

How to prepare for more frequent slowdowns

Volatility should not scare equity investors. Instead, distribute strategically to mitigate downside. We believe that high-quality stocks with stable trading patterns and attractive prices can help investors capture the potential of stocks while navigating more turbulent market conditions. An active approach focused on quality, stability and (QSP) is particularly important when investors flee to safer pockets of the market and drive up defensive stock prices.

Our QSP universe of global equities has generated returns of 2.0% on average in declining markets over the past decade, when the MSCI World fell 5.6% on average (Display, below). In slightly rising market environments, QSP shares rose 10.5%, more than double the market as a whole.

In a volatile world, the pattern of returns matters more

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Don’t fixate on relative returns

What’s the catch? When markets rose 10% or more, QSP shares underperformed by 1.5 percentage points. Thus, investors should feel comfortable with sacrificing some return in very strong markets – less upside capture. The good news is that a strategy that loses less than the market in a downturn can beat the market over time even if it doesn’t capture all of the market bounces.

Adopting this type of strategy requires a change of mindset that does not focus on relative returns quarter after quarter. Knowing that a portfolio’s defensive stocks are well positioned for tough times can help investors stay invested in stocks to capture vital return potential to achieve their long-term financial goals.

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Editor’s note: The summary bullet points for this article were chosen by the Seeking Alpha editors.