Readers of the Stock Market Almanac may know that October is historically one of the most volatile months of the year for shares. The reason - if you believe in seasonal trends - is that many buyers return to the market in October (after selling up in May). And while that can send prices rising, the downside is that patches of weakness can be severe.
Opinions differ on these kinds of calendar effects. But what is certain is that UK markets have flattened out in 2018 after delivering two years of very solid gains.
For those who worry about rapidly rising valuations, this hiatus could be a welcome breather. But you could also interpret the drift in prices as as sign of creeping uncertainty about what lies in wait for equities. With Brexit looming large and President Trump’s trade war with China ratcheting up, you could argue that a lot could go wrong in the months ahead. UK markets could be in for some stormy weather.
Dealing with uncertainty
Predicting the outcome of these events is impossible of course. But one way of taking comfort and positioning a portfolio to deal with potential volatility is to look at how individual stocks tend to be buffeted by the market. Those that are less volatile could be a preferred option for investors who are worried about the impact of market uncertainty.
Over the past few years, growth and momentum have outpaced strategies like value and dividend investing. That’s because investors flock to fast moving stocks in up-markets. But it’s also true that speculative growth shares can suffer the most when market sentiment changes.
This means that in downturns, shares that are less sensitive to the market mood could be a safer, more predictable option. While low volatility shares don’t tend to outperform in bull markets, evidence shows they do much better in periods of uncertainty. In fact, over the long term, low volatility - which essentially means taking less risk - has been shown to be the superior approach.
This ‘low-vol anomaly’ was a finding of the late Professor Robert Haugen, who wrote in detail about low-volatility outperformance existed. He concluded that it was caused by investor behaviour and that there was a misconception that high risk equals high reward.
Haugen believed that investors were overconfident in their own stock selection abilities and naturally attracted…
