How to Combat VolatilitySubmitted by David Gratke on Tue, 04/24/2012 - 3:00pmVolatility wreaks havoc on investors’ psyches—and their portfolios. Oneanswer is to invest in alternative assets, such as managed futures.These don’t correlate with the stock market and are far less volatile.Investors repeatedly sell at market bottoms caused by too much risk inthe portfolios and then buy at market tops. Reducing portfolio volatilityreduces portfolio declines and thus hopefully the urge to sell at marketbottoms, and hopefully reduces the need to chase performance bybuying toward market tops.The average annual return for investors over the past 20 years has onlybeen 2.1%, according to JP Morgan. Investors have not beat inflation. Allthe while, the Standard & Poor’s 500 index has returned 7.8%. But it didso with lurching swings.In 2011 the S&P 500 index ended the year at the same price level itbegan, but was one of the most volatile years on record. If it were not forthe dividends generating 2.1%, the index return would have been zero.The index experienced over 20% volatility throughout the year. Itplunged from April to August by 12%. No wonder investors areliquidating assets from domestic equity mutual funds.Many asset classes are increasingly correlated. One reason is thatcentral banks flooded global markets with money to fight the economicdownturn. That gave large investors plenty of cash to shift amongassets, depending on perceived risk.Meanwhile, alternative investment strategies such as managed futureshave much lower correlations to the S&P 500 index and other market-driven approaches. These low correlations do two things: They helpreduce risk when risk is high, and generate return when traditional assetclasses like stocks do not deliver return.
Managed futures are funds that take long or short positions incommodities futures, ranging from metals (gold, silver) to grains(soybeans, wheat) to financial indexes (the S&P 500) to currencies. Theirmanagers have a lot of flexibility.Managed futures perform above and beyond other asset classes duringbear markets, while earning more modest returns in bull market cycles.According to a study by Attain Capital Management, when the S&P 500drops 25% or more over 12 months, managed futures are up 9%. Whenthe S&P advances 30% or more, the futures gain just 2%.Managed futures remain non-correlated to broad market indexes. Astudy by Altegris Advisors shows that U.S. stocks and managed futureshave a 0.16 negative correlation over 10 years.A Wells Fargo survey finds that 401(k) plan sponsors rate marketvolatility as the biggest concern (53%) among the investors’ retirementrisks. Partly as a result, 42% of employers worry that plan participants donot understanding retirement needs, and 40% are very concerned abouttheir ability to make savings last throughout retirement.Central banks around the globe created almost $9 trillion in extra moneyin recent years. At some point, this debt must be repaid. Will it haveinflationary implications? Many governments are having troubleservicing the debt or implementing austerity programs to contain it. Thatmakes for continued choppy stock markets.Volatility is here to stay. This is where low-volatility investment strategiesmay serve as an addition in one’s portfolio.With the proper assistance of a knowledgeable investment advisor,investment strategist and institutional quality portfolio management, aninvestor may build a world-class portfolio designed to endure the roadahead with a low volatility strategy. But it requires a new way of thinking.David Gratke is chief executive officer of Gratke Wealth LLC inBeaverton, Ore.AdviceIQ delivers quality personal finance articles by both financialadvisors and AdviceIQ editors. It ranks advisors in your area byspecialty. For instance, the rankings this week measure the number ofclients whose income is between $250,000 and $500,000 with thatadvisor. AdviceIQ also vets ranked advisors so only those with pristineregulatory histories can participate. AdviceIQ was launched Jan. 9, 2012,by veteran Wall Street executives, editors and technologists. Right now,investors may see many advisor rankings, although in some areas only afew are ranked. Check back often as thousands of advisors areundergoing AdviceIQ screening. New advisors appear in rankings daily.Topic:InvestingRetirement PlanningAsset Allocation