Riding the stockmarket rollercoaster
Following over a year of stockmarket jitters, investors may be feeling a bit green around the gills: the stockmarket has been lurching up and down and the Northern Rock shambles and impact of the credit crunch have shaken investors' confidence in the market.
But, however queasy you may be feeling on the FTSE 100 rollercoaster - and however nervous you are of the gyrations to come - it's important to remember that, when it comes to investing, risk is par for the course. History has shown that holding your nerve and continuing the ride can pay big dividends.
To date, these ups and downs have had a detrimental impact on returns for some investors. What happens next is anyone's guess, and with our pensions and life savings at stake, it's easy to see why we panic. But rushing for the safety of cash deposit accounts - or even the biscuit tin under the bed - is rarely the answer. After all, choosing to invest in equities means accepting the highs and lows in return for greater gains over the long term.
It's not the end of the world
"Markets always endure periods of volatility, when it looks like it's the end of the world and the safest place for your cash is under the mattress," says Warren Perry, head of research at independent financial adviser Churchill Investments. "There have been various crises over the years, including oil shocks and terrorist attacks, but equities have always recovered their poise and moved on to new highs."
Mike Parsons, head of UK distributor sales at JPMorgan Asset Management, adds: "Our message to investors is not to sell in a market downturn, as this will only serve to crystalise losses. And why sell at a loss unless you really need the money?"
Despite this, in the wake of a stockmarket storm, people's confidence is often battered and they are quick to cash in their investments and the flow of money into funds falls. Conversely, when markets are strong and share prices are high, sums going into investment funds tend to rise. It's easy to see why we behave in this way - it seems to be common sense - but if you want to make money it often pays to do just the opposite.
In 2000, when the stockmarket was booming, sales of stocks and shares individual savings accounts (ISAs) reached £11 billion, as investors ploughed money into them, according to the Investment Management Association (IMA). Yet when the market sank in 2003, sales fell to just £3.5 billion. Investors piled into the markets just before it crashed and gave it a wide berth once it bottomed out and started climbing back up.
Stay in for the long haul
According to Fidelity Investments, an investment of £1,000 in the FTSE All Share index at the end of the last bear market, when the market hit its lowest point this century (3,287 on 12 March 2003), would have been worth a healthy £2,400 at the end of 2007. "While it's difficult to time the very bottom of a market, buying when the market looks cheap and investors are fearful is normally a winning formula," adds Donna Bradshaw of IFA IFG Group.
Whether buying at the bottom or top of the market, however, staying in it over the long-term is essential if you are to ride out the peaks and troughs, says Perry.
Fidelity Investments analysed what happened to £1,000 invested in the FTSE All Share index over 15 years to August 2007. If you remained fully invested during the whole period, your investment rolled up to about £4,890. But if you missed just the best three or four days each year by being out of the market for a total of 40 days during these 15 years, then your original £1,000 would be worth less than £1,338.
'Call the bottom'
While everyone would love to 'call the bottom' of a market cycle and invest all their money then, in reality market timing is very much down to luck, says Gavin Haynes, investment director at IFA Whitechurch Securities. "Drip-feeding money into volatile markets is the best option," he adds. This method smoothes out the peaks and troughs in the market by spreading the amount of time the investment takes, and makes use of 'pound-cost averaging'.
Pound-cost averaging works on the basis of investing small amounts on a regular basis. When prices are high, your monthly contribution buys fewer shares or fund units; when prices are low your investment buys more. As a result, you have the benefit of more units once prices start to rise.
Of course, how you manage your investment strategy will depend on your outlook and what you think the market is going to do. So what do experts think the next year holds for the market?
"I am positive about investing in equities over 2008 and believe that they are the most attractively valued asset class," says Haynes. "The UK market still has a defensive bias, and there are some sectors which are still looking good. Also, the US cut in interest rates should stimulate global growth.
"While volatility is likely to remain higher than we have seen for several years, this will provide good buying opportunities for long-term investors."
What we all want to know...
So which assets or sectors will benefit from market movements in the months ahead?
Parsons says: "I think UK and US equities will do well, along with natural resources funds, which invest in mining companies, extracting iron or copper to help fuel the construction boom in China."
However, Perry adds: "You don't need to be too clever; UK growth and equity income funds are likely to do a sterling job over the long-term. If you want to be more adventurous, you could take a punt on the global economy and choose global emerging market funds. But these have already done well - the key is to keep it simple."
If you're a cautious investor, there are various defensive funds which offer some shelter in these turbulent times. These are designed to ride out stockmarket fluctuations by spreading your investment across shares, bonds and cash, and aim to provide steady returns in all types of economic cycles. A good example is T. Bailey Cautious Managed.
However, Donna Bradshaw recommends treading carefully with these. "If you're just starting out and going for growth you really need to look at the cost and performance of these funds," she says. "Spreading money through asset classes individually - if you're happy to do this - will give you more control over your investment."
The way to cut the risk of sleepless nights when the market tumbles is to have a well-balanced portfolio of funds that does not expose you too much to the stockmarket.
You can shelter yourself from some of the volatility by making sure your portfolio is not invested solely in equities or overexposed to them. Having a diversified spread of assets that also includes bonds, property and cash should help soften any market falls.
"The exact balance is tricky - it varies according to your risk profile - but usually we say put half or more of the portfolio in equities," says Bradshaw. "There's no absolute formula: it depends on circumstances, risk and timescale."
A financial adviser who is not tied to any financial services company (such as a bank or insurance company) and is authorised by the Financial Services Authority (FSA). They can advise on financial products to suit your circumstances. All IFAs have to give consumers the choice of paying by fees or commission and have to explain which would best suit the customer in that particular instance. Also, if commission is paid either by the client or the financial service provider recommended by the IFA, the IFA must disclose what that commission is.
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).
This refers to a market situation in which the prices of securities are falling and widespread pessimism causes the negative sentiment to be self-perpetuating. As investors anticipate losses in a bear market and selling continues, pessimism grows. A bear market should not be confused with a correction, which is a short-term trend of less than two months. A bear market is the opposite of a bull market.
A market-weighted index of the 100 biggest companies by market capitalisation listed on the London Stock Exchange. It is often referred to as “The Footsie”. The index began on 3 January 1984 with a base level of 1000; the highest value reached to date is 6950.6, on 30 December 1999. The index is “weighted” by how the movements of each of the 100 constituents affect the index, so larger companies make more of a difference to the index than smaller ones. To ensure it is a true and accurate representation of the most highly capitalised companies in the UK, just like football’s Premier League, every three months the FTSE 100 “relegates” the bottom three companies in the 100 whose market capitalisation has fallen and “promotes” to the index the three companies whose market capitalisation has grown sufficiently to warrant inclusion. Around 80% of the companies listed on the London Stock Exchange are included in the FTSE 100.