The last three months in the stock market have proved challenging yet exhilarating - the stock market is cyclical, and pullbacks are a natural part of the full market cycle. The market has been marked with largely unpredictable movements. March was marked by a precipitous decline, followed by a mild recovery the next month, while May saw the markets oscillating between highs and lows as investors wait with bated breath for more clarity.
Investors continue to be bombarded with equity tips and tricks that are both vague and contradictory at best during these volatile times: “Do not panic-sell, if you do, this will result in realised losses”, “cut your losses short and let your winners run”, “the best days in the stock market often follow the worst days” and “if you are going to panic, panic early”. In these times of collective confusion, what can we learn from asset and risk management in order to avoid resorting to extremes when confronted with conflicting messages?
The precautionary principle talks to exercising prudence particularly when knowledge surrounding a specific matter is not only lacking but also incomplete. It emphasises restraint, caution, pausing and reviewing available information before leaping into action that will cause severe harm or prove disastrous. This principle has gained support in international networks, specifically in the establishment of public policy relating to health, the environment, and the adoption of technology. The onus is on the organisation or the country instituting a new policy or innovation to show that no injury or damage will be rendered to society.
Similarly, in financial markets, the onus is on the fund managers and asset management firms to show that decisions made during this time prevent substantial value destruction. If one applies the precautionary principle to financial markets, caution, or a “better safe than sorry” approach would be to leap into action and sell down equities during a crisis; particularly when there is an opportunity to prevent losses or wealth depletion amidst uncertainty. Is it a “stub-ification of the market, where the majority of the equities contain various operational and financial overhangs”1, and trade at significant discounts given the uncertainties relating to recapitalisation, growth and consumer demand? The range of outcomes have become considerably wider: with the high probability of the stocks tumbling even deeper into bear market territory or recovering and reaching all-time highs.
Our performance at 36ONE has stood the test of time during periods of high volatility. Not only has our hedge fund demonstrated the ability to provide downside protection, but the 36ONE BCI Equity Fund and the 36ONE BCI SA Equity Fund have also outperformed their respective benchmarks over this recent period of volatility by high-single digit to high double digits. Exercising the precautionary principle has been an important element of each fund’s performance but mainly in relation to preventing a permanent loss of capital on selective positions.
Our funds have benefitted from our ability to manage the portfolios in a balanced way, using a blend of long-term investing and tactical trading, whilst avoiding the risk of missing out on beneficial movements in equity prices. While the market continues with its ongoing back and forth, our decisions remain rational and actionable topped with effective risk management to achieve investment success and prevent us from falling prey to the trap of market timing.
1 “The coronavirus crisis has made whole sectors uninvestable” by Nicholas Jasinkski. Quote adapted from Nichola Colas, co-founder of DataTrek Research. https://www.barrons.com/articles/coronavirus-crisis-makes-much-of-the-market-uninvestable-51588879482