By John Lunt, Lunt Capital
Financial headlines are proclaiming the return of market volatility in 2018. Investors welcome upside volatility—it is downside volatility that creates angst and make all of us prone to mistakes in our investment decision-making. After very low volatility during 2017, the return of “normal” volatility in 2018 feels even more pronounced. Typical investors often think of volatility in terms of the number of “points” that the Dow Jones Industrial Average moves. It now takes around 250 points on the Dow to move up or down 1%. I have a front page of The Wall Street Journal from October 28, 1997 in my office. The headline announces “Industrials Dive 554.26 points, or 7.18%.” This was very early in my money-management career, and it helped sensitize me to risk and market volatility.
The Dow started 2018 at 24,719. An equivalent percentage drop starting from Dow 25,000 as I saw in 1997 would be 1,795 points on the Dow. In the subsequent 20 years, I have experienced dozens and dozens of episodes of market volatility. Some were sudden and then over. Others lingered for extended periods. I recently mentioned that I have a couple hundred more of these episodes of volatility left in me! Think back over the last 20 years that have included bubbles, busts, wars, panics, terrorism, and countless reasons to worry and be pessimistic. Through it all, thoughtful, diversified, global investing has built wealth.
Mark Twain famously said, “history does not repeat itself, but it often rhymes.” I expect that the next twenty years will include as many reasons for worry as the last twenty have. I also expect that thoughtful, diversified, global investing will build wealth. The circumstances, the investment tools, and the sequence of the journey will be somewhat different. Long-term success is most likely for those willing to apply sound investment principles in combination with economic, market, and investment innovation.
Long-term success requires investing around and through these episodes of downside market volatility. Diversification is appropriately championed as an important portfolio tool to cushion volatility in growth-oriented asset classes (U.S. Stocks, International Stocks, Resources, and Real Estate). The continuing ETF evolution has provided targeted, transparent, traded, and tax-efficient tools to build effective asset class diversification.
True diversification includes more than asset class diversification—it also incorporates strategy diversification. This can include a portfolio with elements that are both strategic and tactical. There is a spectacular array of strategies available to include within investment portfolios. We can generally categorize tactical strategies into three groups—strategies that rotate, tilt, or hedge.