July 2010

The Recent Market Volatility: What Can We Learn From It?

By: James Parkyn

With frequent news reports of market ups and downs, clients often ask: “Are the markets more volatile today?” The answer is: “Yes” and “No.”

Yes, on a daily basis, our markets appear to be much more volatile. The immediacy of the Web, detailed financial news reports, rapid growth of global trading and exchanges, and a sophisticated array of financial instruments such as derivatives are among the many drivers of sharp market movements.

Looking over the last 40 years, however, the markets are no more volatile than in the past. Our research shows, over four decades, there were 22 instances of one-day market declines among the S&P 500 exceeding 5% of value. That’s almost one severe market drop every two years. Even a cursory review of the 1970s shows that, while daily volatility was low, month-to-month shifts could be dramatic.

So, volatility has not increased lately, it has always been there and will continue. What can we learn from this?

Developing a relatively safe and sound investment portfolio depends heavily on achieving proper diversification and allocation of your capital — principles that PWL advisors live by. No matter how hard you try, you cannot rely on “market timing” or abrupt “flights to safety” to keep your money safe and growing. Thanks to diversification, for example, many of our clients did not miss the recent upturn.

We have always been an advocate of this motto: “Risk management first, performance next.” Our robust portfolios embody this principle by leveraging diversification and lowering risk while achieving solid market returns.

Investors are compensated over time for the volatility associated with market risk, but not for risk that can be diversified away. PWL’s approach is to use highly diversified portfolios that minimize these uncompensated risks. Our investors can then be confident that low portfolio risk and reasonable returns, over the long-term, are closely linked.

James Parkyn

Portfolio Manager
PWL Capital Inc.