How to navigate this market volatility with ETFs

They say market meltdowns make an investor (a lot of money if they're wise, that is). That said, trying to pick the winners when the rest of the market is running for the hills isn't exactly easy. 

After all, the S&P/ASX 200 has dropped more than 12% since the beginning of the year, while the S&P/ASX 200 VIX Index - the gauge of expected volatility for the Aussie stock market - has lifted nearly 60%. 

It hasn't been easy for the country's top stockpickers either. From what we can see from ASX Fund data, more than 40% of Australian equity managers underperformed the benchmark over the 12 months to the end of May. Meanwhile, SPIVA data shows that 73.45% of active managers underperform the S&P/ASX 200 over a five-year period. 

It therefore begs the question, is a passive approach a safer bet? 

So in this episode, Livewire's Ally Selby was joined by Shaw & Partners' Felicity Thomas and Apt Wealth's Sarah Gonzales for their thoughts on using active or passive products to navigate market volatility. 

Plus, they also share the number one question they are hearing from clients right now, as well as one ETF that they are recommending to clients to help sail through these stormy markets. 

Note: This video was shot on Wednesday 6 July 2022. You can watch the video, read the transcript or listen to the podcast below.

Edited Transcript 

Ally Selby: Hello, and welcome to Livewire's Buy Hold Sell. I'm Ally Selby. And as I'm sure you're well aware, it's been a tough few months for investors, so today we're going to try and give you a little bit of a helping hand. We've invited two financial advisers on the show to see how they're managing client portfolios in this difficult environment. Today we're joined by Sarah Gonzales from Apt Wealth, and Felicity Thomas from Shaw and Partners.

Before we kick off today, I want to point to a stat from SPIVA. It shows that around 73% of active managers actually underperform the ASX 200 benchmark over a five-year period. Felicity, I might start on you. Do you typically recommend a passive or active approach during periods of market volatility?

Felicity Thomas: I think that active managers can really show their strength in times of market volatility. However, the issue with active management is they potentially do hold onto positions and they don't have to sell everything, unlike passive. But with a passive ETF, they usually rebound a lot quicker.

Ally Selby: Over to you, Sarah. In times like these, do you typically recommend passive or active, particularly given that SPIVA stat that I referenced before, which shows that quite a few active managers underperform the benchmark?

Sarah Gonzales: I think passive and active both have a role to play in portfolios. Particularly in Australian equities, we do use passive, even during normal times of volatility, because of that stat you said that a lot of active managers do struggle to outperform passive indexes. Whereas in the global space, I think both have a position in a portfolio. So a blend of both, but particularly in Aussie equities we definitely use passive.

Ally Selby: As I mentioned earlier, it's obviously been a really difficult time for investors, myself included. I'd love to know what's the main question that you're hearing from clients right now.

Sarah Gonzales: The main question we're getting from clients is, should I be changing anything in my portfolio? Should I be selling down my portfolio? And the answer to those questions is always, you don't want to sell anything while the market's falling. Once you sell something, you crystallise the loss. And so our position with clients is we try to get them through these downturns and difficult periods, coaching them through that, rather than making hasty decisions.

Ally Selby: What's the main question you're hearing, Felicity?

Felicity Thomas: I guess everyone's wondering, are we going into a recession? Is inflation here to stay? I mean, Australia's been such a lucky country that we've actually managed to avoid recession. And recession is essentially only three-quarters of no GDP growth. Now, recently, Norway, Australia and China still have that growth. So right now we're actually looking fairly positive on the market. The market's very forward-thinking also, so I think we're trying to tell our clients, as Sarah said, stay the course, don't panic, dollar-cost averaging, reduce your cost base. Be a long-term investor.

Ally Selby: Let's talk about ETFs now. There are around 250 ETFs available to Australian investors. Felicity, what kind of attributes should investors look out for when selecting ETFs during times like this, during times of market sell-off or volatility?

Felicity Thomas: I think investors should look at their original strategy, not get fearful and actually look at the recommended timeframe of investment for these ETFs. Some ETFs have a five to seven-year timeframe, and some lower-risk ETFs have shorter timeframes. So I think just really sticking to your guns. And dollar-cost averaging, topping up positions that have been sold off, if you've got a long time horizon.

Ally Selby: Over to you, Sarah. What kind of attributes are you looking out for in ETFs during this period, and what are you steering clear of?

Sarah Gonzales: I think during periods of volatility, the key thing that we say to our clients is making sure you invest in something that you understand. So make sure you understand what the underlying ETF is actually investing in. Particularly during periods of market volatility, understanding the liquidity of those underlying positions, as well as the ETF itself. You don't want to get stuck in a position where you can't get out of an ETF if you need cash or something like that. Things to steer clear of, again, are things you don't understand. Because if you don't understand what you're investing in, it's really difficult to make a decision about what you should do with that investment.

Ally Selby: Research out of Stockspot has shown that investors lost around $100 million by investing in thematic ETFs over the past year. Sarah, staying with you, should investors be steering clear of thematic ETFs?

Sarah Gonzales: No, I think thematic ETFs, again, have a position to play in portfolios. I wouldn't create an entire portfolio out of thematic ETFs, but I think they are a way to express a client's particular interest in a particular sector or a particular thematic. So I think they definitely allow more flexibility in terms of portfolios, in terms of targeting a specific exposure that you want.

Ally Selby: Felicity, over to you. What's the risk of investing in thematic ETFs? I feel like they get slammed because a provider will typically release them when it's the peak popularity of a theme. What are some of the risks involved with that?

Felicity Thomas: As Sarah said, it's important that it's not the total portfolio. Take a core-satellite approach. The risks are that it is more of a speculative theme. Now you saw with the Betashares Crypto Innovators ETF (ASX: CRYP), that's sold off significantly. I think it's down 80%, maybe even more. But I definitely think that these ETFs are important. If you look at the best performing ETFs, we've got the Betashares Global Energy Companies ETF (ASX: FUEL), right? That performed extremely well. So why would you want to stay clear of that thematic? And I think as Sarah said, it lets you add your own individual tastes and interests to your own portfolio.

Ally Selby: Last one for today. We asked our financial advisers to bring along one low-volatility ETF that can help you sail through these stormy markets. Felicity, what have you brought for us today?

Felicity Thomas: So what we're doing for our clients at the moment is looking at hybrids. So I've actually brought the BetaShares Australian Bank Hybrid ETF (ASX: HBRD). The reason we like it is it's obviously got a fixed maturity rate, but then it has the floating bank bill swap rate. So in a rising rate environment, you're getting the benefit there. Now, hybrids, bank hybrids, have always paid their quarterly distribution ever since the GFC. So it's fairly safe and fairly defensive. I think this ETF is only down about 1%, which is nothing.

Ally Selby: Okay. Over to you, Sarah. What's your low-volatility ETF for today?

Sarah Gonzales: The ETF that I've chosen is actually the iShares Global Healthcare ETF (ASX: IXJ). And the reason why we've chosen it is that IXJ provides exposure to pharmaceuticals, biotech, and medical devices. And this particular sector tends to provide out-performance during a full market cycle. It also tends to not fall as much as the overall market during market downturns, and over the last three to five years, they've actually generated great returns at much lower volatility than your overall market, even than some low-volatility ETFs.

Ally Selby: Okay. Well, that's all we have time for today. We hope you enjoyed that ETF special of Buy Hold Sell. I hope you found it a little bit helpful. Remember to subscribe to our YouTube channel and give this a like if you enjoyed it.

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