Turbulent times call for a little ballast
Nautical images are part of the landscape in New England, with its miles and miles of uninterrupted seashores. Our Federated Hermes office in downtown Boston overlooks a typically bustling harbor, and many of us here have memories of summers on the beaches of Cape Cod. Some like myself were lucky enough to grow up there. So perhaps it is not surprising as I try to make sense of the unprecedented, somewhat surreal environment we find ourselves in, that a sailing analogy comes to mind.
If you have ever watched small boats exiting the sheltered waters of a harbor into choppier open seas, the reaction is the same: the captain stands tall, gripping the wheel, ready to be buffeted by waves that may come from any direction. Passengers in life preservers bend at the knees in unison, reaching for the nearest fixed object to steady themselves. The ship, sails unopened and wrapped tightly to their masts, struggles forward under the power of an outboard engine.
Even as economies reopen, virus fallout lingers
Today our economy and markets are faced with a similar circumstance. With large parts of the globe remaining under orders to shelter at home or at the least maintain social distancing, more than 20% of the country’s workforce suddenly unemployed and industrial production declining by the most in over 100 years of data, it is a large and somewhat insensitive (to the human cost) understatement to say that we have hit some turbulent seas.
Collectively, people and institutions are reacting as one might expect. Central banks are pumping liquidity into the economy. Fiscal policymakers are extending and improving unemployment benefits, providing credit to private businesses and granting funds to equip health workers dealing with the crisis on the front lines. Companies are raising cash, slashing dividends, eliminating buybacks, reducing capital expenditures and, unfortunately, cutting staff. Finally, individuals are tightening those life preservers, boosting savings, following health protocols, cancelling travel and trying to adjust to the reality of this new, bizarre era.
Coping with challenging environments
For investors, this situation is no less challenging. While stocks have rallied strongly off their March lows, exiting what was the fastest bear market in history, the outlook remains cloudy, with choppy waters and possible hazards ahead. Thankfully, there are strategies designed to help cope with uncomfortable environments. A tenet of Modern Portfolio Theory is that combining uncorrelated investments (fancy finance-speak for returns that don’t move in the same direction at the same time) to create a portfolio may mitigate some of the risk that comes with investing. Another way to say that is that portfolio diversification can add elements of potential safety and stability, traits especially valued in periods of extreme uncertainty such as the case now.
These so-called balanced strategies can come with a traditional domestic focus or a broader approach that includes asset classes across the globe. Either way, by combining investments in both equities and fixed-income instruments and in some cases in foreign markets, volatility may be lessened during periods of economic and market stress, particularly relative to approaches focused on a single asset class, style or country/region. So whether the seas remain rough or things calm down and allow the sails to be unfurled, considering a balanced approach may provide ballast to help long-term diversified investors weather whatever conditions lie ahead.