By Michael Forman
In 2015, in the midst of the commodity price downturn, we ran a series of webinars based on the premise that “volatility equals opportunity.” The idea was that volatile markets can present attractive investing opportunities for those with the patience to look past short-term sell-offs and buy when others may be selling.
Why do investors buy high and sell low?
With the benefit of hindsight, it is apparent that the market dislocation of 2015 created an attractive entry point for those with the discipline and experience to take advantage of the opportunity. The ability to opportunistically buy and hold assets through complete market cycles can contribute to meaningful portfolio appreciation.
This contrasts with the experience of many open-end mutual funds and hedge funds that faced significant investor redemptions over the same period. During market shifts like those seen in 2015 and early 2016, investors tend to sell indiscriminately out of fear of the unknown rather than focusing on underlying fundamentals.
In my experience, investment decisions based on day-to-day price movements often lead to missed opportunities. As markets tend to overshoot, both on the way up and on the way down, investors should guard against focusing too much on short-term market impulses at the expense of long-term investment horizons. Simply put, investors that sold at the depths of the 2015 downturn ran the risk of buying high and selling low.
Of course, investing can be an emotional business. Many of today’s investment goals, such as saving for college or putting money away for retirement, are quite personal in nature. So demanding that investors remain calm, cool and collected during periods of severe market volatility is unrealistic. The key, then, is to reduce the ability to react emotionally.
How illiquidity can help
Especially during times of market volatility or uncertainty, it may benefit investors to embrace illiquidity for a portion of their portfolio. Since we all have different personal and financial goals, the ideal amount of illiquid investments will depend on an investor’s investment objectives, risk tolerance and liquidity needs. Embracing illiquidity can be especially beneficial when investing in assets that are not readily tradable, such as private debt and private equity, which are meant to be held for the long term. We believe that investors are best served by fund structures that seek to match the liquidity of their underlying investments.
Like in life, patience truly can be a virtue for investors. It is a simple concept, but the wisdom of this maxim has been proven many times over. As the experience of living through the credit market’s many ups and downs during the past three decades reminds us, history may not repeat itself, but it does rhyme.
Michael Forman is the CEO of FS Investments
This article originally appeared on the FS Investments Perspectives blog.
