As volatility returns, and looks like it’s here to stay, portfolio managers are casting around for ways to control risk and eke out gains, while still bracing for a slump in global growth.

“Badly behaved markets can ruin peoples’ retirements if they are exposed to too much risk and do not have the capacity to recover from large drawdowns,” says Susan Gosling, head of investments at MLC.

“But the complexity of the investment world makes it difficult to take an objective view of the future. There is a behavioural tendency to overreact to repeated good news which leaves investors unprepared when things turn out less positively.”

With very low interest rates and an enthusiastic quantitative easing program over the last 10 years, investors relying on interest income missed out and so many conservative investors were pushed up the risk spectrum. This weight of money has meant that many assets have become expensive in a widespread hunt for adequate returns. While this process can’t go on forever, the bias is to extrapolate continuing strong returns.

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The tipping point

Gosling reminds us that at some point, as rates rise, there is a tipping point at which investors will start coming down the risk spectrum. She sees this as one of many risks to over optimistic (and overconfident) market expectations which reflect the past more than the future.

“However, the long period of mostly positive news – with limited interruptions – has encouraged investors to extrapolate strong returns and neglect consideration of risk. We suspect that many investors remain overly optimistic and vulnerable to some misperceptions or under appreciation of risk,” Gosling says.

“And with assets generally expensive, there is a real challenge from the lack of diversifiers that portfolio managers can turn to seek returns while limiting risk,” she says.

Martin Watson, managing director of Perth-based advice practice, Bellwether Financial Group, agrees there is a lot of global uncertainty around Brexit and US and China trade negotiations, not to mention the Australian apprehension around the upcoming election.

“These remain very attractive when compared to fixed interest or cash returns,” he says.

“My mantra is, there is always opportunity in any market and staying calm in the face of noise always
delivers sound long term results.”

Check your bias

There is a common tendency for people to perceive events that have already happened as having been more predictable than they were before they happened.