Defensive Equities: Finding Stability in an Unhinged World

Three powerful forces have unleashed a volatility storm in stock markets this year. But don’t give up on equities. Several strategies can be effectively deployed to help reduce risk and stay invested through the turbulence.

Hopes for an accelerated recovery from two pandemic years were dramatically dashed in early 2022. Instead, a sharp spike in inflation is threatening global economic growth. Russia’s invasion of Ukraine has made inflationary matters worse and added geopolitical risks. And as central banks raise interest rates, fears are growing that a miscalculation could tip the world economy into stagflation—and drag stock valuations even lower.

Stock markets are struggling to price in the effects on individual companies. As a result, the MSCI World Index has fallen by 12.0% this year through May 6, in local currency terms, while the S&P 500 has dropped by 13.1% over the same period. Sharp market swings have become commonplace, with the S&P 500 moving up or down by more than 1% on 44 trading days in just over four months.

With volatility expected to remain high, it may be tempting to reduce exposure to stocks. But by doing so, investors forfeit significant equity return potential. At some point, when the risks recede, equity markets can be expected to rebound.

In this environment, reducing equity risk is challenging—but it’s achievable with a disciplined approach. By focusing on quality stocks with stable trading patterns and attractive valuations, we believe equity portfolios can be created that are more resistant to volatility but capture long-term recovery potential.

Counter Inflation with Quality

Inflation fears are at the top of investors’ minds. Our research suggests that companies in the top quintile of US stocks based in our quality, stability and price (QSP) universe performed better than the broader market in past periods of extreme inflation (Display) in both rising and falling markets. During the OPEC oil embargo between 1972 and 1974, our QSP universe fell by 11%—much less than the S&P 500’s 16% decline. When inflation spiked after the Iranian revolution from 1977 to 1980, QSP stocks advanced by 11.3% while the market was flat.