The headline £50 billion wiped off the stock market! has been used a number of times over the last year by the media but what does it really mean and how does it impact Cullen Wealth’s investment philosophy?
What is the FTSE 100?
The FTSE 100 is an index composed of the 100 largest companies listed on the London Stock Exchange (LSE). The FTSE 100 was launched on 3 January 1984 and had a start value of 1,000.0. As I write today the market has a value of 6,721 so the market has risen considerably since 1984.
Some of the largest FTSE 100 companies are really global companies that derive much of their income from right across the globe and trade in many different countries.
What does a fall in the FTSE mean?
Well when the FTSE falls by the numbers reported in the headlines, it does not mean that your portfolio has suffered in the same way, but why?
Asset allocation
When we make investment recommendations to meet your needs, the key is understanding how much risk you are willing to take and from here we determine the asset allocation. The more cautious you are, the more defensive assets will be held such as cash, fixed interest, government bonds and property. The more risk you are willing to take, then more of your investment will be held in equities. It is equities which tend to be more volatile and fall and rise quicker than most other assets.
We know it’s not a good idea to put all your eggs in one basket. It’s an extremely risky strategy to believe you can predict with certainty which assets will prosper over any appreciable length of time.
That’s why we believe and practice the art of asset allocation: spreading the risk between a variety of asset classes so that we never bank everything on the worst performing investment. In fact, there are numerous studies out there which document that asset allocation determines more than 90% of your investment return. Strategic asset allocation is the most important driver of long-term performance.
Asset classes complement each other because they tend to perform differently under different economic conditions, for example, equities generally do well during periods of high growth while high-grade government bonds will often prove their worth during periods of recession.
Just as important as selecting the right asset classes for the risk you are willing to take, is the diversification of those asset classes.
Diversification
A good example of diversification is that the economic conditions of different countries rise and fall at different times, so spreading your investments globally rather than investing in just the UK or Europe will balance the risk of your portfolio. When investing in equities, diversification is again important, investing in a range of different sectors, such as banking, pharmaceuticals, construction and so on.
So in summary, investing in a wide range of asset classes and then diversifying how you physically buy into those asset classes, ensures that when you see ‘£50 billion has been wiped off the FTSE 100’, your portfolio won’t be experiencing the same losses.
Investing over longer periods
Remember that if you are investing in the markets, you should be investing for the medium to long term and that we should all expect to see short term fluctuations, but that over longer periods of time, we expect that positive returns should be achieved.
If you do have any worries about your investments, do speak with your Cullen Wealth consultant.
