You can weather volatility better by changing the asset mix of your portfolio. For instance, if you suspect the market is fully valued, you might increase your cash position and place more money in high interest savings accounts or Guaranteed Investment Certificates.
You won’t experience any volatility for your cash investments. Typically, they should cater to your short- to medium-term cash needs. It’s also smart to have a few thousand dollars of emergency funds handy so that during an emergency, you won’t have to dip into your long-term investments and potentially sell at a loss.
Bonds and preferred shares also tend to experience lower volatility than common stocks. Having a portion of your diversified portfolio in these investments can also help you weather volatility. Bonds and preferred stocks are sensitive to changing interest rates. Companies must also pay the coupons or dividends for them before they pay dividends for the common stock.
What about controlling volatility in your common stock portfolio?
The first step is to consider stocks from different industries that are exposed to different risks. The idea is to hold a portfolio of quality stocks that aren’t correlated. You’ll find that stocks in the same industries often move in tandem because they’re exposed to similar risks. So, it doesn’t provide much diversification when you add stocks in the same industries.
You might choose the top one or two stocks from key industries or sectors, including a bank, utility, or telecom. Also, don’t forget these sectors: technology, healthcare, consumer staples, consumer discretionary, and real estate. Furthermore, target them at good valuations.
Dividend stocks can also limit the volatility in your portfolio. For instance, stocks that pay decent dividend yields and increase their dividends over time have a bigger base of long-term investors that might help to limit the stock volatility.
You can also target low-beta stocks. Yahoo Finance shows the five-month beta of a stock. A beta of one implies similar volatility as the TSX. A beta lower than one implies lower volatility than the market.
Gold stock example
Franco-Nevada (TSX:FNV) stock has a recent beta of 0.6. It is a gold-focused royalty and streaming company that has a large and diversified portfolio of cash flow-producing assets. For example, 79% of its second-quarter revenues came from precious metals — primarily gold, followed by silver. It also has streams from oil and gas.
Franco-Nevada stock can serve as a low-risk gold investment that hedges against market volatility. It has also crushed market returns in the long run. For example, in the last 10 years, the gold stock delivered annualized returns of 16.8% versus the market returns of about 8.3%.
Its portfolio currently consists of about 116 producing assets, while 42 projects are in advanced stages and 272 projects are in the exploration stage. Therefore, Franco-Nevada appears to have plenty of growth opportunities. Notably, the gold stock has also increased its dividend for about 15 consecutive years with a solid 10-year dividend-growth rate of 9.0%.
At under $189 per share at writing, it offers a dividend yield of under 1%, and analysts believe it trades at a slight discount of about 11%.
