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Episode 2: Managing Equity Risk for a New Type of Volatility
Deputy CIO and CIO of Global Equities Mike Hunstad, Ph.D., examines how the nature of volatility has shifted and the equity strategies that can mitigate the resulting risk, in an interview with Northern Trust Asset Management President Daniel Gamba, CFA.
- Your Volatility Roadmap
- Financial Advisor
Key Points
What it is
We examine a new kind of market volatility and the equity strategies that may help defend against it.
Why it matters
Investors often seek to mitigate equity risk during market turbulence without losing significant long-term equity performance.
Where it's going
High quality and low volatility equity strategies combined performed well during recent market turbulence, and can provide long-term equity performance with less volatility.
Daniel Gamba (DG): During periods of high market volatility, clients want to participate both on protecting their portfolios, but they also want to be part of the upside. Clearly, in markets that we are experiencing today show exactly that. The losses followed by massive returns. So those are tricky markets to navigate. So Mike, we're here today with you. How do you compare these periods of market volatility relative to prior periods?
Mike Hunstad (MH): I mean clearly the tariff issue is having a macro implication for volatility, higher volatility as a result of that. But that's not the end of the story. There's a lot more to it under the hood. There's a micro side as well. And one of the really interesting facets of today's market is that retail participation in the market is making the markets, call it more jumpy. It moves on a relatively smaller dollar amount of flow. The price moves even more extreme than it has in the past. So that, we have more retail ETFs, we have more emotion that's involved in markets today than there was 10 or 20 years ago. And as a result of that, you get a higher frequency and severity of these volatility shocks like we've seen over the last several months.
DG: Different market conditions this time. Clearly participation from retail investors as well as new participants like exchange traded funds be a big part of the market. So considering these fluctuating market conditions, how do you play these markets, Mike?
MH: One way to approach this market is to think about a higher quality, lower volatility orientation to your to your equity allocation. So when you think about what happens in a volatility event, a volatility shock, typically markets are in a big drawdown. But higher quality lower volatility stocks tend to mitigate some of that downside. So what happens is the market tends to draw down, the flight to quality higher quality lower volatility, tend to have a better performance historically. When markets rebound, which is faster and faster these days, those same high quality, low volatility stocks that help to mitigate some of that downside risk participate a lot in the upside. So having that higher upside capture, lower downside capture can materially add to the performance of your strategy.
DG: That’s excellent. And within our portfolios in the high quality low volatility portfolios, how have we done?
MH: So quarter one of this year, these strategies have outperformed by about 500 basis points. Now that's a short term number. Longer term these strategies have actually kept up with the market. They've achieved about 99% of the return of a core benchmark. So, it's about, again, risk mitigation. That's the objective of the strategy. But participating, on the upside as well, having that lower downside capture, higher upside capture allows you to mitigate a lot of that risk. But, participate in the upside of the market as well.
DG: Thank you, Mike, thank you for your insights about the high quality, low volatility strategies.
Main Point
Equity strategies for volatility and the long-term
High quality, low volatility strategies mitigate risk during turbulent markets while still providing exposure to equity performance over the long-term.
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