Investing Basics: Core principles to help you rebuild your portfolio after the crisis

Five tried and trusted principles of investing can help you rebuild your portfolio as DIY investors return to the market – writes Christian Leeming

The Covid-19 pandemic triggered the biggest economic crisis since the Great Depression of the 1930s; more than $7trillion was wiped off global stock markets as whole economies were locked down, bond yields hit record lows and oil prices turned negative for the first time.

However, even in such unprecedented times, tried and trusted investment principles apply, and if abided by can help investors looking to rebuild their portfolios and get their retirement plans back on track.

Now, investors are returning to markets and DIY brokers and platforms report record levels of new business as more and more people seek to take personal control of their finances.

At DIY Investor we believe that financial education is key to allowing people to make sound financial decisions; it is not aimed at punters, our philosophy leans heavily on the old adage ‘mony a mickle maks a muckle – many small things combine over time to create a big thing. Savings and investment 101 – see Muckle.

Two recent stories highlight different approaches being adopted, one of which sits comfortably with us, the other not.

DIY Investors Rush to Global Funds as Confidence Returns reports that investors ploughed £11.2 billion into retail funds in Q2 2020 – more than the £9.8 billion invested in the whole of 2019.

The fact that global funds have out-performed any other sector indicates that well educated investors are looking for stocks around the world that have been over-sold; they have not yet recovered faith in UK stocks, and want to ensure they are not overly dependent on any particular territory in case the dreaded virus returns with a vengeance.

That is good DIY investing; the complete antithesis is to be found at Gamified Investment Apps Could Seriously Damage Millennials’ Wealth which reports a ‘millennial rush’ as inexperienced investors flocked to apps such as Robinhood and engaged in incredibly risky and ill-advised behaviour by trying to catch the falling knife that was the collapsing oil price.

Newbie investors piled into a complex and inherently risky commodity-based ETF – The United States Oil Fund (USO) – and by the time the oil price started to perk up, more than a third of investors had already cashed in their chips; this is buying low and selling lower – something to be avoided at all costs in a long term investment strategy, and best addressed via education.

We believe that there are five broad principles that should stand investors in good stead:
 

Understand the nature of the crisis

The pandemic has created a very different type of crisis to that in 2008; the Global Financial Crisis was rooted in greed and systemic failure at the heart of the banking sector. It was essentially man-made and poor governance failed to identify the super-heated valuations and spiralling risk that eventually saw so many filling their Iron Mountain boxes.

The fiendishly entwined financial system ensured that the crisis escalated in a fashion not dissimilar to a coronavirus and then raced through the entire financial food-chain.

The Covid-19 shock is different in that it is external, rather than from within the economy or financial system. That is important because it is not an economic crisis caused by weaknesses in the financial system, and that could see a much more rapid recovery as economies start to recover and markets normalise.

An indication of the magnitude of the effort to bail out the banks after 2008 is that despite everything decimated by the virus, government support has still not yet reached levels of the Global Financial Crisis.

Investors should know that this recovery will be aided by the rollout of huge policy support initiatives; the global economy was in fairly good shape before the crisis, and overall, this creates a reasonable expectation of a rebound in riskier asset prices.
 

Stick with your plan

If you have a well diversified, well balanced portfolio of investments, you should not have to join the stampede for the exit when things get sticky.

Trying to time the market by selling out after the crash and then buying back in later is a seductive idea, but it’s a strategy that is likely to be counter-productive; over-trading is expensive, and if you time it badly you risk missing out on the recovery that can often follow a market downturn.

The canny DIY investor will have invested within their tolerance for risk, and the likelihood that any single investment should hit the buffers should be mitigated by investments that counterbalance that risk.

It’s easy to turn into Corporal Jones when markets are all over the show and the bad news keeps on coming, but sticking to the basics – staying invested, rebalancing your portfolio back to your long-term strategy, and investing little and regularly rather than with a lump sum – remain the best ways to achieve savings goals.
 

Focus on the long-term

At the end of March the economy stopped on a sixpence in a way that nobody had experienced before; despite fears of a second spike, it is likely that there will be a recovery in the coming months, although experts appear unable to agree what shape or to what extent it will be.

Businesses of most types are beginning to trade and although the ‘new normal’ may feel a little queer, at some point it will just become normal; new pictures will emerge – those that could kick themselves for not having invested in Zoom (primarily because they’d never heard of it) may take some solace if they had no exposure to the aviation or cruise sectors.

There is no guarantee of the shape, size or time frame of the recovery and there is plenty that could happen to affect it – for better or worse – so being over-focused on short-term economic trends could be detrimental to your long-term objectives.

Historically, we know that stock markets tend to rise over time despite short-term fluctuations, and buying stocks in recessions is one of the best times to do so; drip-feeding money into the market delivers pound-cost averaging as the ‘bargains’ you pick up reduce the average price you have paid for a particular investment.

Policy also matters for investment markets – quantitative easing and central banks’ subsequent shift to looser policy allowed global equity markets to rally despite multiple economic and geopolitical challenges.

DIY investing is for the long-term and if you can ignore the short-term noise – delivering either fear or temptation – you will have a big advantage.
 

Look at the Big Picture

However much attention is heaped upon individual investments or niche market stories – as Amazon has waxed, so has IAG waned – it’s important that investors take a portfolio-level view.

Technology has delivered incredibly well over a long period now, and however much incredulity there is over the Tesla share price, few commentators appear even close to pulling stumps.

Due to the Bank of England’s quantitative easing programme, a big story over the past ten years has been the success of government bonds as diversifiers; ultra-low inflation and interest rates, meant that bond investments performed exceptionally well, protecting investors’ portfolios when stocks were jittery.

But past performance may not be an indicator of future success and it would be unwise to take that diversification for granted; bond yields are at all time-lows, monetary policy is reaching its limits and governments are rediscovering fiscal policy as a stimulus tool.

Investors may need to broaden their investment universe, and look elsewhere for methods of portfolio diversification.
 

Embrace the brave new world

The fastest bear market in history will have rocked many investors, and for those forced to sell at the bottom, it will have delivered a salutary, if painful lesson.

However, there are some pockets of relative strength; many Asian markets, have remained resilient and China appears to be stabilising and getting back to work.

It’s also a good time to consider the themes and trends that will shape investment markets after the crisis has passed.

The importance of responsible investing (ESG) and social objectives is likely to grow; many businesses have embraced technology and are rapidly adopting new ways of working, and global supply chains will be recalibrated in a still-fraught geopolitical environment.

These and other mega trends will create new opportunities for nimble investors as they seek to rebuild their portfolios.

The pandemic has given us plenty of ammo with which to shoot down the bore at the golf club who claims to have ‘seen it all before’; you haven’t mate, and neither have we.

However, even in exceptional circumstances, there are tried and trusted investment principles that we can rely upon to aid our understanding and help us take a pragmatic and informed approach.
 

If you have any thoughts or would like to share your experience of trading in markets experiencing extreme volatility we always like to hear from you ask@diyinvestor.net. Cheers and happy investing, Christian.