Khaleej Times - How to sail through a market sell off?

With the number of Corona virus infections topping two million and deaths above 120,000, markets underwent great volatility during the past two months. As the virus spread across the Eurozone and the US, equity indices witnessed a free fall with SPX 500 sliding over 30 per cent from the highs. Among the worst hit were Eurozone indices- Spain (IBEX), France (CAC40), and Germany (DAX 30) with some falling almost 39 per cent from the 2020 highs. Likewise, India's Nifty index, UK's FTSE and Australia ASX 200 all witnessed losses in excess of 35 per cent from their respective highs this year. With oil income contributing to over 70 per cent of the public revenues, major GCC bourses also suffered massive losses. Saudi Arabia's Tadawul index lost 30 per cent from this year's high at one point. ADX and DFM also lost in excess of 35 per cent from the highs this year impacted by drop in tourism as well as oil prices.

Safe-haven demand pushed Gold to above $1700 per ounce while US 10Y treasury yields plunged to a record low of 0.31 per cent. The economic uncertainty along with the tussle between Saudi Arabia and Russia hammered Brent and WTI crude prices by more than 70 per cent from its highs of the year.

How to Trump Volatility?

First and foremost, stick to the basics. Diversification is important as it is always fruitful to manage your savings and strategically invest in different asset classes. There are different categories of assets like Equities, Commodities, Bonds & Forex and each serves its own purpose.

Investors betting on the heightened volatility in the markets & also looking to hedge against increased volatility levels may look to invest in TVIX & VXX ETF's. TVIX or Velocity Shares Daily 2xVIX Short Term ETN provides investors with opportunity to trade on the underlying volatility in the markets. Same holds true for VXX or Barclay's iPath Series B S & P 500 VIX Short Term Futures ETF. However, word of caution for anyone investing since any sharp recovery in markets is likely to cause a huge drop in volatility levels and impact these ETF prices.

Investors may also look to invest in Gold & US Treasury Bonds based ETF's. iShares 7-10-year ETF (IEF) received has received substantial inflows this year highlighting the relative allure of fixed income space during time of downturn. Similar is the case for GLD (SPDR Gold ETF) which has seen around $ 2 billion worth of inflows this year. Going ahead, there is a high probability of the fund inflows in such ETF's matching or even bypassing their large-scale Equity peers as investors increasingly look to hedge themselves against any downturn.

How to Hedge Crude Oil Price?

The steep fall in crude oil prices has rocked the risk market sentiment. Rolling historical 30-day volatility for WTI over last 6 month period has spiked to a high of 97. During the beginning of the year, the volatility was near lows of 31. For any oil trader or person holding physical market exposure, the best way to hedge is to make use of put options depending on his view & the current exposure. As an example, trader holding crude oil position currently and worried about a further downfall can purchase a lower strike put option. Should the crude plunge further below the current levels, the value of put option will only increase. In the worst-case scenario, the trade would stand to lose out his initial premium paid of $ 1.50 /barrel.

Sectors Hard Hit

As the coronavirus outbreak continues to hit global markets hard, the travel industry is suffering its worst crisis in over 2 decades. On the transportation side, non-essential as well as essential business trips in the hardest hit zones have been curtailed. People planning their vacation for the next 3 month period have postponed their plans. As an estimate, the International Air Transport Association (IATA) calculates that revenue worldwide this year could decline dip between $63bn and $113bn. After 9/11, airline revenues fell by 7 per cent, or $23bn.

Airline industry by nature is cyclical, but this pandemic induced shutdown has come out of the blue and has literally crippled the industry. To find out the best in industry we need to analyze them from liquidity, solvency and profitability perspective. And some of the best ratio's used for this purpose are Return on Assets, Quick Ratio and its capitalization ratio. Three companies from US and Europe which stand a cut above the rest in terms of the above mentioned ratio's are Ryan Airlines, International Consolidated Airline Group (Parent of British Airways) and Wizz Air Holdings PLC.

Ride sharing companies like Uber Technologies Inc and Lyft are cash rich and should survive this downturn. In the oil sector, companies like ENI SPA & Total SA (European), Exxon Mobil, Chevron and Royal Dutch Shell have good investment grade ratings.

Winners

Some of the companies which benefitted from the virus meltdown are Microsoft, Zoom Video Communications (ZM), Teledoc, Netflix (NFLX), Peloton Interactive (PTON) and Slack (WORK). A huge surge in online meetings has benefitted Zoom while increase in the number of people steaming videos for entertainment has helped Netflix. Slack has seen a jump in number of users from 10 million to 12 million in March while Microsoft has seen usage numbers from 32 million to 44 million. Peloton Interactive has also seen a jump in the number of customers opting for online exercise classes.

Verizon as a pure telecom play is a great investment when recessions strike and the sector outperformed the markets in 2008. Wal-Mart (WMT ) also is considered as a recession-proof stock (or a bear market stock) as its revenues and sales tend not to take a hit from any kind of economic turmoil. In fact, Wal-Mart's discount products are sometimes more coveted when times are tough. Healthcare is one business which performs well even during times of economic uncertainty and Johnson and Johnson is a stellar company in this field. J&J's latest COVID-19 program that includes a vaccine for coronaviruses is a great example of the company's innovative leadership in healthcare.

ETF Space

As we weather the current corona virus storm, downfall in equity markets has created opportunities for buying good quality ETF's that are likely to gain on increased diversification theme in volatile markets. ETF's targeting a specific sector or even targeting specific parameter like growth/income/value are likely to be a better buying opportunity. Over here we look at 3 major ETF's - Pro Shares S&P 500 Dividend Aristocrats ETF (NOBL), Van Eck Gold Miners ETF (GDX), Utilities Select Sector SPDR Fund(XLU). A dividend aristocrat is a company that has increased its aggregate dividend payout since last 25 years. Currently, there are 57 such companies. NOBL ETF primarily focuses on such companies with investment in such companies likely to come in handy as it would provide a consistent source of income. Gold mining stocks are likely to provide good investment opportunity in an environment where physical gold prices are on the rise and supply constraints are high. With FED adding record amount of liquidity in the system every week, gold prices are likely to further rally in long term. GDX ETF provides a smart investment opportunity in this regards. Utility stocks tend to bring about consistency in a portfolio. Basic household needs of any individual like gas, water, electricity is likely to be unaffected by economic downturn. This is even as spending habits of any individual might change in order to save more during bad times. With traditional utilities being protected by their respective energy commission, firms in this sector are well protected against any wholesale mispricing. XLU ETF focuses on such companies whose top line tends to be relative stable during economic downturn.

Active Management?

Global equities are a very large space comprising of Developed, Developing and Emerging Market companies. Technological advancement today enables Investors to access thousands of equities across America, Europe, Japan and Hong Kong with one single click. From Dubai itself we can access different markets and different asset classes including bonds, currencies and commodities. Investors should make use of this opportunity by actively managing their portfolio. As suggested earlier, exposure to high quality assets should be increased during market turmoil. The advent of technology has democratized markets and information today is freely available on various financial market websites. If the investor doesn't have time, he/she should seek the help of a professional expert to navigate the markets.

Vijay Valecha is the chief investment officer at Century Financial. Views expressed are his own and do not reflect the newspaper's policy.

Source: Khaleej Times