Calm fears with a focus on resilience
Adding elements of resilience to equity portfolios can be an antidote in times of uncertainty by offering some measure of stability amid broader market volatility. We focus on three key variables to up portfolio resilience:
1. Quality
A history of earnings stability is a hallmark of a quality company, in our view, and a prudent investment approach amid mixed macro signals. Quality companies generally have strong free cash flow, solid balance sheets and the brand strength and pricing power to maintain, or even grow, their market share relative to competitors in the case of an economic slowdown.
A record of dividend payments is another marker of quality. History shows dividends are less volatile than both stock prices and corporate earnings, as company managements are loath to cut a dividend and risk alarming markets. This imposes a fiscal discipline that historically has allowed dividend-paying stocks, and particularly dividend-growth stocks, to fare better in a downturn.
2. Valuation
In equity investing, price is what you pay and value is what you get. We find many fundamentally strong large-cap stocks priced at a discount to their earnings potential today, as the market has bypassed them to reward a handful of AI-leveraged super-earners.
Yet don’t disregard the mega-caps strictly on price. Not all growth companies carry equal risk. Most members of the “Magnificent 7,” for example, demonstrate quality characteristics (e.g., high profitability and free cash flow) that may earn them their higher price tag. Essentially, they may be good value for their price. This distinguishes them from more speculative high-growth, low-profitability companies that tend to expose investors to the risks of substantial drawdowns.
3. Diversification
The benefits of diversification can be more pronounced amid dramatic market reversals. Sectors and factors that were most battered in the April drawdown led the way on the rebound. Portfolios with a balance of traditionally defensive sectors such as healthcare and growth-oriented areas such as technology could be better positioned to weather sentiment-induced ups and downs than those with more similar risk exposures.
A strong innovation impulse in both of these sectors should accrue to long-term growth prospects, while both also offer elements of stability. Parts of today’s tech sector, such as software, could be considered the new “staples” ― essential to everyday life in the 21st century. We find that portions of healthcare outside of pharma, such as healthcare services and medical devices, exhibit key quality characteristics. They’re stable earners with good growth prospects and attractive valuations.
Volatility: Inevitable, uncomfortable, totally normal
Stock markets can be moved ― sometimes significantly ― by macro fears and investor reaction to them. Yet company fundamentals and earnings prowess, areas we emphasize as bottom-up stock pickers, are less erratic and historically have been shown to be the real drivers of long-run investment outcomes.
Volatility, and the new highs that often come with it, need not derail long-term investing aims. A focus on resilience can not only fortify portfolios but provide investors with the wherewithal to weather bumpy markets.
