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BLOG: How to defend your savings in a falling market

Darius McDermott
Written By:
Darius McDermott
Posted:
Updated:
16/09/2015

Constructing a well diversified portfolio has become challenging as asset classes become increasingly correlated. What’s the solution?

The events of the past few months are a timely reminder of just how risky investing can be. We had the global bond rout in the spring, followed by volatile stock markets in the summer. Who knows what autumn will hold? So what can you do to protect your savings?

Diversification

The holy grail of investing is a balanced portfolio, which diversifies risk and smooths returns. It is a portfolio made up of different assets, which are lowly or even negatively correlated to each other. If assets are negatively correlated to one another, when one part of your portfolio does poorly, another should be doing well instead.

Traditionally, a safe haven like government bonds was negatively correlated to the equity market. You may have heard of the terms ‘risk on’ and ‘risk off’. On a ‘risk on’ day equities would go up and government bonds would go down. On a ‘risk off’ day the opposite would happen.

Unfortunately, in recent times, partly as a result of central banks’ policies such as quantitative easing, asset classes have become increasingly correlated. Bonds and equities now often move in tandem with one another. This has made constructing a well balanced portfolio extremely difficult.

So what can you do?

Targeted absolute return funds are a relatively new type of fund, but they are an important weapon for investors in the fight against increasing correlations. There are many different types and some are much more risky than others, so it is important you do your research. But the basic premise is that they are focused on not losing clients’ money – they aim to deliver a solid return in all market conditions, with minimal risk. If you can find funds which achieve this, they can act as a solid rock within your portfolio, even in times when the wider equity and bond market are falling. I like Elite Rated Premier Defensive Growth and Old Mutual Global Absolute Return.

Another option is property funds. Although they didn’t perform well in the global financial crisis, physical property can be a good way of diversifying your portfolio. It is typically relatively uncorrelated to equity markets and less volatile. It can also provide a steady income. I like Henderson UK Property.

Finally, there are strategic bonds. They are more flexible than gilt, corporate bond or high yield bond funds and, in the right hands where the manager navigates the changing environment correctly, can deliver good risk-adjusted returns. However, it is a large sector and volatility can vary immensely, so it is important to do your research. Elite Rated Jupiter Strategic Bond is a good example of this.

As is always the case, there are no guarantees, but there are steps you can take to minimise the impact of falling markets. It pays to be prudent.

Darius McDermott is managing director of Chelsea Financial Services

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