Summary: In this Ethos, we share a bit of our process for being prepared for potential outlier events and how we may trade them. It's like an NFL playbook for various scenarios: We think about potential events in a calmer environment with the goal of making better decisions in the heat of the moment.
What will you do if the market tumbles 8% in October, a month known for having above-average volatility? You are probably thinking you will put some cash to work and buy that dip! Okay, the market dropped 9% from mid-July till early August. Did you do some buying? Making a portfolio change is always challenging. During upward market swings, greed becomes a more prominent emotion, as fear does during downward swings. Very, very seldom do these emotions help results or decision-making.
Worse yet is the narrative. When the market is down, financial news is certainly tilted towards doom and gloom. When it's up, there is more euphoric messaging about how AI or something else is going to change the world. The takeaway: Financial news, X, or whatever your source, likely exacerbates that fear/greed emotion. Tweets and comments on August 5th included many saying the bear market had started or the world was ending. Whoops.
And then there is the time. If you are inclined to make a change during a big market move, it takes time to become comfortable with the portfolio change, research and analyze it, rationalize the decision, and then implement it. If it’s a model change for many clients, that takes even more time. All this contributes to a more buy-and-hold approach: position a portfolio for what you believe will happen in the coming months, quarters, or years.
But the markets never move in a straight line, and there will be big oscillations, up and down, along the journey. These moves can create opportunities to add value to a portfolio by being a bit tactical, even if just around the edges. So, how can we overcome decision paralysis due to emotions, somehow navigate the noise from financial media, and implement a change in a timely, thoughtful manner?
Portfolio Playbook: Think about it now to be more prepared for later
Today, the S&P 500 is at 5,500. What would you do if it reaches 6,000 before year-end? That would be up over 25% this year. What would you do if it tumbles down to 5,000 in the fall months? That is a drop of about 9% from here. Pre-conceiving a few broad scenarios can really help the decision-making when/if that moment happens. I’m not saying it should be automatic or easy, but working through some scenarios in advance will help lighten the load if it happens, which may improve the implementation speed or decision-making process.
We use this approach in our individual equity portfolios with revisit levels. They are not triggers but levels the team will re-assess, which could lead to selling, trimming, adding, or buying. It helped us trim our Cameco in the $70s and do some buying around $55. Today, it’s at $52. So, I’m not saying this always works perfectly; adding at $52 would clearly have been better.
But today we are talking multi-asset portfolios. So the potential scenarios are more market or economic events that might change our thinking in one direction or another, and result in a change in our multi-asset portfolios tilts or exposures. It is not a wholesale change, as the portfolio's core is predicated on a longer-term view and objective. But smaller changes around the edges as markets create what could be opportunities.
“The stock market is the only store that people run out of screaming when things go on sale.”
– Craig Basinger paraphrasing Greg Taylor, who paraphrased somebody else
Considering these events ahead of time and how we may trade improves our process during what could be a stressful time. Please note, it almost never works out as envisioned, but can often have some similarities. These are not forecasts; more things could happen and impact how we consider reacting.
Note: These are sample scenarios and potential portfolio ideas for illustrative purposes only. Any actual portfolio changes are subject to many additional considerations in real-time.
Final Thoughts
We find considering different variant outcomes ahead of time, lightens the load when we are considering a portfolio change in the moment. The number of scenarios can really expand, as can the additional context characteristics. We believe the more thinking you can do ahead of time in a calmer environment, the better your decision-making will be when things go crazy or reach extended levels. Of course, many scenarios may never trigger, but it is still better to be prepared in case the market doesn’t simply move up in a steady, smooth line.
If you would like to discuss how this approach may help your investment process, give us a ring.
— Craig Basinger is the Chief Market Strategist at Purpose Investments
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Sources: Charts are sourced to Bloomberg L. P.
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