Michael Keaveney: The first half of 2022 has been a rough ride for most investors with rapidly rising interest rates pummeling the bond market, negative sentiment driving stocks down, and inflationary pressures grinding away at the purchasing power of the remaining assets.
Now, there is a growing chorus of recession predictions, further dampening investor spirits, which have been buoyant for a long time, interrupted only briefly by the initial impacts of the pandemic. At times like this, it's been tempting for investors to question their investment approach. Even some fundamental investing principles such as the benefits of diversification are up for scrutiny when both stocks and bonds have gone down together.
With the recent fall in conventional markets, there is no shortage of alternative investments promising a smoother ride, either in isolation or to the overall investment portfolio because of the underlying characteristics of the asset class or the methodologies used. Possible alternatives range from commodities to cryptocurrencies, infrastructure, real estate and private equity and debt, trend following macro and event-driven strategies. The list goes on. There is merit in exploring some of these further, always keeping in mind the underlying costs and liquidity, how the asset class weathers economic and sentiment cycles and the quality of the strategy operator, not to mention the fine print of the offering.
But for most retail investors, these alternatives will be complements to an investment portfolio where the core will continue to be made up of stocks and bonds. Within that core, it's a useful reminder that during this downturn, there has been some variance in the returns between short-term bonds and longer-term bonds, between value stocks and growth stocks, and between sectors, where energy and utilities have been islands of green in a sea of red. Cash, of course, has also been a short-term haven and should always be considered for inclusion in a diversified portfolio.
A downturn isn't a good time to panic, but it is a good time to revisit long-term investment goals. For example, an income-oriented investor may see some current opportunities to take advantage of the higher yields now on offer in the bond market to meet regular income needs that were simply not available when rates were hovering at historic lows. Total return investors may also be in a better position going forward as the valuation premium has been slashed, making both stocks and bonds much better value.
Stocks and bonds are falling at the same time, creating an uncomfortable period with few places to hide. In this environment, one may be tempted to abandon a well-formed investment strategy in favour of the rare recent winners, but we still see the best portfolio mix maintaining a healthy level of stocks and bonds.
Being a diversified investor means holding multiple asset classes where there are reasoned prospects for different return patterns over time. Even at the best of times, being a diversified investor means owning some assets that are not performing well currently. Although the future appears more uncertain of late, the nature of the future is that it is always uncertain. We must therefore always consider a broad range of potential outcomes and create portfolios that are robust across that range. Diversification remains a key tool for those who don't know the future with absolute certainty and in reality, that's everyone.
From Morningstar Investment Management, I'm Michael Keaveney.
