When storms blow up, investors want to be on the most stable, robust vessel they can find, and the same applies to investing in volatile times. The author considers a few ideas.
In these uncertain economic and tense geopolitical times,
safeguarding investments is very much on the agenda. To discuss
the main approaches is David Absolon, investment director at
Handelsbanken Wealth and Asset Management (more on the author
below).
David Absolon
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Financial markets can be unpredictable at the best of times but
navigating them during periods of geopolitical risk can prove
particularly challenging. Given the current climate, shaped by
armed conflict in Europe and the Middle East, major elections
across countries collectively representing 40 per cent of the
world’s economy, and the possible threat of a trade war between
the US, Europe and China, it’s safe to say risk remains
elevated.
Should this environment worry investors, and how can we manage
associated risks within our investment strategies?
Given their diverse nature, there is naturally no “silver bullet”
when building investment strategies to account for geopolitical
risks. Using a combination of diversifiers gives us the best
chance of cushioning investment strategies, should risks become
reality.
Bonds
The current interest rate environment has seen more aggressive
hikes than the last four decades, and with bond prices having
fallen, yields have leapt up to around 4.4 to 5 per cent. The
upward move in bond yields has put them back into contention when
it comes to the power of diversification. Should geopolitical
risks unfold, the expectation would be for yields to fall, and
the market value of bonds to rise.
Specialist protection strategies
Specialist financial products have essentially been created to
act as insurance for investors looking to guard against risk.
“Tail-risk protection” is one example of a specialist financial
product – designed to provide returns in the event of a sudden
and meaningful market downturn. As with most kinds of insurance,
you will pay premiums but will not receive anything in
return.
However, when a meaningful and sudden enough downturn takes
place, the insurance will kick in and the premiums paid will
ultimately be worthwhile. It does, however, require a very
specific set of events to produce returns which justify holding a
position for an extended period. Covid-19 was one example of a
crisis which triggered dramatic enough falls in the stock
market in a very short space of time, for tail-risk protection to
come into full effect. They still form part of the arsenal, but
less so given what has happened to bonds, as we now get paid to
wait in bonds until the full diversification properties are
required.
Gold
Gold is unarguably the best-known safe haven in financial
markets. While often a good hiding place during times of market
turbulence, long-term performance would suggest it is an
unreliable “port in a storm.”
Gold outperformed during the 2008 financial crisis for example,
but from a long-term perspective, it has sometimes not provided
the safe haven that investors would have hoped for during
inflationary, or deflationary, times. Placing a value on gold can
be very difficult, which poses a problem. This is because gold
does not produce a yield, in the way that bonds do, and supply
and demand dynamics are volatile.
Despite this, it remains a useful diversifier during times of
heightened geopolitical risk. Alternative options, such as hedge
funds, have been viewed previously as a panacea for diversifying
investment portfolios, but overall performance has dwindled since
2008. Bearing this in mind, gold most certainly has a place in
multi-asset portfolios.
US dollar
The US dollar is another familiar asset for diversification, and
somewhat more reliable in the long term than others. Central
banks and major financial institutions around the world hold it
for international transactions, or as a secure store of value.
Over recent years, there has been widespread speculation over the
dollar’s status as the go-to reserve currency, but these concerns
have never come to fruition. Over the short term at least, the
dollar is likely to maintain its status.
While there is no one-size-fits all approach, a well-crafted,
diversified strategy can help safeguard our investments.
Continuous monitoring, adaptability, and a long-term perspective
remain essential. As the global landscape evolves, so too should
the strategies employed.
About the author
David Absolon is investment director at Handelsbanken Wealth
& Asset Management, where he manages the defensive investment
strategy and is co-head of fixed income research. He is also a
member of the tactical asset allocation team and head of
investment research. Prior to this, he was investment strategist
at Barclays Wealth.