10 ways to protect your portfolio from the eurozone crisis
While it might be doom and gloom over on the continent, there are ways to protect your portfolio to minimise the risk of eurozone contagion. Here we outline 10 ways to shelter your money from the sovereign debt crisis.
1. Spread your portfolio
Diversification is key - the "eggs in basket" motto has never been truer than over the past year. Spread your portfolio across a variety of asset classes - including equities, property, bonds and commodities - and developed and emerging markets to ensure true diversity.
Consider adopting a "core satellite" strategy, where the core is the more solid, passive equity investments, and the satellite is the slightly racier actively-managed investments.
2. Venture further afield
Consider allocating away from Europe and developed western markets most hit by the effects of the euro crisis. Focus on nations with little, or no sovereign risk. Jassim Alseddiqi, chief executive of Abu Dhabi Capital Management, says the expanding gulf region - Saudi Arabia, Kuwait, Bahrain, Qatar, UAE and Oman - offers protection from the economic downsides in Europe.
"There are no sovereign debt issues, no bubbles, and there is vast spending and population growth here," he says. Meanwhile, growth in emerging markets is slowing, but is still much stronger than in Europe, and nations such as China don't have the same levels of debt that exist in the West.
3. Have the stomach for the fight
However, don't automatically eliminate all exposure to Europe in light of the turmoil, as Europe has traditionally been a key part of many portfolios. "There are opportunities for those with a strong stomach," says Stephen Barber, who advises Selftrade on economics and markets.
"But also for those who take a longer-term view, value can be found in quality companies from core European economies, especially Germany. Remember that German exporters have benefitted from a weak euro."
4. Consider retail corporate bonds
Think equity returns are too volatile and those from government bonds not bothering with? If you can't handle the 30% plus yield on a risky Greek bond and don't want a dull low-yielding UK gilt, consider a retail corporate bond. There are several inflation-linked and fixed-rate bonds available to retail investors from good quality companies.
As well as providing inflation-beating returns, they are a good way to diversify a portfolio. See the London Stock Exchange's Order Book for Retail Bonds for more information on individual bonds, or consider buying a strategic bond fund, which has the flexibility to invest across a range of regions and sectors.
Exchange traded funds (ETFs) are useful vehicles to access large global markets as well as more arcane sectors to diversify away from the euro-area. They are large and liquid funds that allow intra-day trading, so allow investors to react to short-term news from the eurozone.
Barber comments: "Index tracking ETFs are perhaps the easiest method of buying exposure. That diversification can include countries, industrial sectors and commodities." They are also much cheaper - the average total expense ratio of an ETF stands at 0.48%, compared to the average TER of an open-ended fund at 1.52%.
Sophisticated investors could consider hedging potential market slumps with derivatives for a modest sum, which essentially act as insurance against the market going against your favour. However, they are complex and can be quite opaque, so seek advice before buying one.
7. Favour dividend-paying stocks
At a time when the markets are flatlining and growth is scant, investors are increasingly looking to income to plug the gap in a portfolio.
In falling markets, high dividend stocks such as Shell, BP, AstraZeneca and British American Tobacco tend to outperform other growth assets. "Investors must re-evaluate their approach if they have traditionally focused on capital growth," says Fidelity's global chief investment officer Dominic Rossi.
"In a low-yielding, low growth world, investors should favour dividend paying stocks and strategies, with income likely to account for a much more significant part of equity total returns, going forward. For the last 20 years, investors have bought equity markets for capital growth, but now is the time to buy equities for income."
8. Look to resilient companies
In terms of equity exposure, look to large, solid companies with sound balance sheets and resilient earnings to avoid being sucked in to the ongoing macroeconomic turmoil.
Iain Stewart, an investment manager at BNY Mellon Asset Management, says some of his favoured stocks are in the healthcare, telecoms and non-cyclical consumer sectors. He is also looking at higher-yielding international equities, technology, and gold-focused mining stocks to find growth.
9. Beware exposed banks
Remember that lots of other UK banks have exposure to the problems in the eurozone, most notably foreign banks such as Santander and ING Direct. Last year, Banco Santander (Santander's parent company) posted a 98% drop in profits, due to its liabilities in the beleaguered Spanish property market.
That said, a bank wishing to operate savings products in the UK must be regulated by the Financial Services Authority and covered by the Financial Services Compensation Scheme, which covers up to £85,000 of cash savings and £50,000 of investments per financial institution.
These limits cover a banking group, so if you have savings with Bank of Scotland and Halifax (both part of Lloyds Banking Group), you will be entitled to compensation of £85,000 spread across both.
10. Ride out the storm
Finally, if a stock you've invested in has massively crashed or a fund has suffered rock bottom performance, don't be tempted just to sell on this basis.
It's easy to be worried with so much economic gloom reported daily, but selling when things are bad means you risk selling at the bottom of the market, and missing out on the subsequent upside. Make a rational decision if you're considering selling out of an asset, and bear in mind that the stock could shoot up in value as quickly as it fell.
This article was written for our sister website Money Observer
All investment returns are measured against a benchmark to represent “the market” and an investment that performs better than the benchmark is said to have outperformed the market. An active managed fund will seek to outperform a relevant index through superior selection of investments (unlike a tracker fund which can never outperform the market). Outperform is also an investment analyst’s recommendation, meaning that a specific share is expected to perform better than its peers in the market.
The general term for the rate of income from an investment expressed as an annual percentage and based on its current market value. For example, if a corporate bond or gilt originally sold at £100 par value with a coupon of 10% is bought for £100 then the coupon and the yield are the same at 10%, or £10. But if an investor buys the bond for £125, its coupon is still 10% (or £10) and the investor receives £10 but as the investor bought the bond for £125 (not £100) the yield on the investment is 8%.
An increase in the general level of prices that persists over a period of time. The inflation rate is a measure of the average change over a period, usually 12 months. If inflation is up 4%, this means the price of products and services is 4% higher than a year earlier, requiring we spend and extra 4% to buy the same things we bought 12 months ago and that any savings and investments must generate 4% (after any taxes) to keep pace with inflation. Since 2003, the Bank of England has used the consumer prices index (CPI) as its official measure of inflation (see also retail prices index).
Total expense ratio
Most investment funds levy an initial charge for buying the units/shares and an annual management fee but other expenses also occur in running the fund (trading fees, legal fees, auditor fees, stamp duty and other operational expenses) which are passed on to the investor and so the TER gives a more accurate measure of the total costs of investing. The TER is especially relevant for funds of funds that have several layers of charges. Unfortunately, investment fund companies are not obliged to reveal TERs and many only publish the initial charges and annual management charge (AMC).
An interchangeable term for shares (UK) or stocks (US). Holders of equity shares in a company are entitled to the earnings and assets of a company after all the prior charges and demands on the company’s capital (chiefly its debts and liabilities) have been settled. To have equity in any asset is to own a piece of it, so holders of shares in a company effectively own a piece proportionate to the number of shares they hold. (See also Shares).
Corporate bonds are one of the main ways companies can raise money (the other is by issuing shares) by borrowing from the markets at a fixed rate of interest (the reason why they are also known as “fixed-interest securities”), which is called the “coupon”, paid twice yearly. But the nominal value of the bond – usually £100 – can fluctuate depending on the fortunes of the company and also the economy. However it will repay the original amount on maturity.
If you own shares in a company, you’re entitled to a slice of the profits and these are paid as dividends on top of any capital growth in the shares’ value. The amount of the dividend is down to the board of directors (who can decide not to pay a dividend and reinvest any profits in the company) and they will be paid twice yearly (announced at the AGM and six months later as an interim). Dividends are always declared as a sum of money rather than a percentage of the share’s price. Although dividends automatically receive a 10% tax credit from HM Revenue & Customs (HMRC), which takes the company having already paid corporation tax on its profits into account. Dividends are classed as income and, as such, are liable for personal taxation and so shareholders have to declare them to HMRC.
Generic, loosely-defined term for markets in a newly industrialised or Third World country that is in the process of moving from a closed economy to an open market economy while building accountability within the system. The World Bank recognises 28 countries as emerging markets, including Argentina, Brazil, China, Czech Republic, Egypt, India, Israel, Morocco, Russia and Venezuela. Because these countries carry additional political, economic and currency risks, investors in emerging markets should accept volatile returns. There is potential to make large profit at the risk of large losses.
A term applied to raw materials (gold, oil) and foodstuffs (wheat, pork bellies) traded on exchanges throughout the world. Since no one really wants to transport all those heavy materials, what is actually traded are commodities futures contracts or options. These are agreements to buy or sell at an agreed price on a specific date. Because commodity prices are volatile, investing in futures is certainly not for the casual investor.
An Exchange traded fund is a security that tracks an index or commodity but is traded in the same way as a share on an exchange. ETFs allow investors the convenience of purchasing a broad basket of securities in a single transaction, essentially offering the convenience of a stock with the diversification offered by a pooled fund, such as a unit trust. Investors buying an ETF are basically investing in the performance of an underlying bundle of securities, usually those representing a particular index or sector. They have no front or back-end fees but, because they trade as shares, each ETF purchase will be charged a brokerage commission.