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Home Markets Global
Published 12 August 2022
Important information: The value of investments and the income from them, can go down as well as up, so you may get back less than you invest.
THE big news this week was that America’s tech-laden Nasdaq Index has entered a bull market. Yes, you read that right. The US technology stocks that led world stock markets into a bear market in June have since rebounded to such an extent – about 20% – that they can now be considered to have exited a bear market rally and entered a bull market instead1.
That might seem a little strange, given that the US is already technically in a recession while several other countries – including the UK – may be about to enter one.
What this underlines though is the fact the economy is not the stock market. Each has the capacity to disengage with the other over short time frames.
So, while there’s no getting away from the fact that a UK recession now looks more likely than at almost any other time since the global financial crisis, we shouldn’t translate that directly to our return expectations for stock markets.
What really matters at times like these is having a strategy that can survive or even capitalise on the short-term ups and downs, while maintaining an exposure to the long term growth and income streams that stock markets can provide.
So here are some ways to prepare for the uncertainties that lie ahead.
1 – Stage your investments
Saving regularly is an extremely powerful strategy right up there with compounding – the action of continually reinvesting your dividends to generate potentially further capital gains and dividends.
Regular savings plans are always a good idea, but they work best of all when markets are volatile. That’s because volatile markets lead to an increased number of opportunities to buy more fund units or shares at low prices and fewer fund units or shares at high prices.
If the UK economy is indeed headed for a recession, you can be sure there will be plenty of speculation and uncertainty about inflation, interest rates and a whole raft of factors affecting shares. The stock market is very likely to swing one way then the other, as expectations about future events ebb and flow.
In such an environment, regular savers need not be worried. They will be accumulating shares or fund units throughout and the more volatile markets are, the better their average buying prices should be.
By starting to save from £200 per month on the Fidelity platform before 12 September 2022, investors can currently get £25 cashback. Exclusions and T&Cs apply.
2 – Invest in products that consumers either can’t or don’t want to do without
This strategy can lead us in all sorts of directions, to owning shares in companies from Unilever to Apple. Companies that have been around a long time are generally worth a premium when the going gets tough and the future is more than usually difficult to predict.
Investing defensively across a range of sectors could be a smart move in the current environment. From consumer staples to healthcare to utilities, there are sectors likely to hold up well even as households cut back on the luxuries of life to conserve cash.
If you prefer growth stocks, then companies making profits today (as opposed to an indeterminate time in the future) with strong balance sheets should continue to see strong demand from investors. Apple is just one example of a leading growth stock making big profits today.
The risk is that you overpay for defensive or dependable growth companies in a recession, because other investors have been thinking the same way beforehand. So investing in funds with a strong track record of seeking out undervalued, defensive opportunities could be the best route to take.
As a general rule, investing in funds as opposed to individual shares limits risks, which is all the more important when economic conditions weaken.
3 – Invest across a range of assets
Most investors know that shares tend to do well when the economy is growing and there is low or moderate inflation, while government bonds benefit from an environment of low or no growth and low levels of inflation.
What we often don’t know is how much future economic conditions are already discounted in the present-day valuations of shares and bonds. Interestingly, UK government gilts have risen since late June, even in an environment of high and rising inflation2.
That suggests changes in investor expectations are the real drivers of asset prices, at least, over short periods. Most recently, investors have begun to discount a probable recession, making government bonds relatively more attractive, even though other fundamentals like inflation and interest rates count against them.
The best way to hedge against volatile market expectations is to invest across multiple asset classes, as each has the potential to behave differently, sometimes, in unexpected ways.
Sharp falls for a number of commodities over the past few months – including oil, copper and wheat – show how an asset class can spring a surprise, just when you thought you had a good handle on the future.
You can get Tom Stevenson’s latest view on asset classes and regions in the August 2022 Investment Outlook.
4 – Consider an equity income fund
It can be all too easy to miss out on the substantial benefits of holding income producing shares over the long term. While investing in shares that pay big dividends is ideally suited to generating a retirement income, it can work out very well for long term investors too.
Since dividend payouts tend to be far less volatile than stock markets, owning shares in companies that pay large dividends tends to smooth out the total returns investors see each year.
Moreover, reinvesting dividends to buy more shares makes the most of the stock market’s proven ability to generate attractive returns over the long run.
Even over shorter periods, reinvesting dividends can make an appreciable difference. Over the past five years – which obviously includes the pandemic fall and subsequent recovery – the FTSE All-Share Index has delivered an average annual return of 4% if you take the reinvestment of dividends into account3.
Funds you might want to consider include the Franklin UK Equity Income Fund, which benefits from a four-strong management team based in Leeds.
This fund aims to generate an income higher than that of the FTSE All-Share Index plus investment growth over a three to five year period after fees and costs. This fund pays a quarterly dividend and currently yields approximately 3.8%, although this is not guaranteed.
The Fidelity Global Dividend Fund has a wider investing remit and the flexibility to invest in sectors and industries underrepresented in the UK, including technology. The Fund has consistently grown its dividend payouts every year since launch in 2012, and currently yields about 2.6%, which is also not guaranteed.
5 – Invest in persistent growth themes
Something we can be sure about, some companies will continue to stand out against the crowd even if the UK or the world enters a recession. For example, the big drug companies and healthcare providers in general look set to benefit for at least the next year from the surgery backlogs caused by the pandemic.
Semiconductor shortages continue as well and have become acute problems for developers of electric vehicles and data centres, which have been struggling to source enough chips to keep pace with demand. That’s a positive for Taiwan Semiconductor, the world’s largest chipmaker and many others besides.
Cloud computing is another growth area that’s unlikely to be derailed by a recession, because it helps businesses to reduce their costs even as they expand. Amazon, Alphabet (Google) and Microsoft are all now big players in the cloud computing market.
For the “doomsters and gloomsters”
Finally, at the risk of paraphrasing our outgoing prime minister, it’s worth remembering the investment outlook is by no means all doom and gloom. Stock market valuations around the world have come down since the start of this year, suggesting at least some of the bad news on inflation, interest rates and slowing growth is now baked into share prices.
Markets could even see a further revival because of this, especially if the economic news and updates from companies we receive over the next few months is better or at least no worse than expected.
Underlying strength in the jobs market, both here and in the US, is encouraging and not normally a feature associated with recessions, deep or otherwise. Meanwhile, households face the next few months still with relatively strong balance sheets – a leftover from the pandemic4.
The market rally that started in July demonstrates how fast sentiment can change, and deserves to be a consideration in how all investors manage their portfolios through uncertain times. Selling investments just before the next big, unexpected rally is not something any investor relishes.
A diverse portfolio can help provide an investor with the necessary confidence to avoid doing this. This, at the end of the day, is at the heart of a successful long term strategy – one that can ride the short term ups and downs while continuing to capture growth over time.
1 The Wall Street Journal, 11.08.22
2 Bloomberg, 11.08.22
3 FTSE Russell, 29.07.22
4 ONS, 30.06.22
Important information: Investors should note that the views expressed may no longer be current and may have already been acted upon. Overseas investments will be affected by movements in currency exchange rates. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to one of Fidelity’s advisers or an authorised financial adviser of your choice.
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