Market volatility can be the patient investor’s friend

When you are in the middle of one of these incredible periods of market turbulence, most people seek safety in the herd. However, according to Hollie Briggs, Head of Global Product Management for Loomis Sayles’ Growth Equity Strategies Team when this ‘siren song’ of herd mentality is at its most alluring is exactly when investors need to fight against it. In this Q&A we ask Hollie:

• How the team is viewing this period of market volatility
• About previous times when market volatility has created buying opportunities
• How to resist the herd mentality
• How the team’s strategies perform in down markets

Markets are volatile right now and we have seen significant drops in markets around the world. How does the team view this latest bout of volatility versus volatile periods in the past?

Hollie: Markets are always changing. As much as investors may try to explain and forecast market volatility, it's really unpredictable. So our approach today, as in other times in the past, is to look through the current market volatility. We ask ourselves whether or not there have been any changes to the long-term investment thesis of any company in our portfolio, and then we proceed rationally.

The reality is that the worst-case pricing scenario can and will happen; we just don't know when. Given this, we believe we must be ready every day and so we patiently wait until all three aspects of our quality-growth-valuation investment thesis come together simultaneously before we act. We've waited more than five years in some cases for this moment. These moments are rare, and they're unpredictable. The point is being prepared well in advance of the opportunity to invest helps us avoid many of the pitfalls of irrational fear that often takes hold in moments like we're experiencing right now.

We have found that when investment decision-making is driven by factors other than valuation, efficient dynamic price discovery breaks down, and this can create opportunities for us. We're an active manager with a long-term-oriented, valuation-driven process, and we believe our disciplined process and our patient temperament are what differentiates us.

How do you resist the ‘siren song’ of herd mentality?

Hollie: Resisting the siren song, the fear and greed that invariably whipsaws markets requires a significant amount of work.  For us that's our deep fundamental research, which is continuously maintained and prepared well in advance of that opportunity to invest. We want to be positioned to make rational investment decisions based on our long-term assessment of valuation when the opportunity arises.

The goal is to buy low and sell high. It sounds easy, but it’s really not. So we have an alpha thesis that encapsulates a deeply held system of beliefs, a rigorous, repeatable investment process that guides us every day, and helps us at these moments of extreme fear and greed.

How does the team manage risk in your portfolios?

Hollie: It really comes down to how you define risk. For us, we define risk as a permanent loss of capital. That means we're defining risk in absolute terms, not in terms relative to the benchmark. So when it comes to assessing valuation and the risk of valuations, we prepare bottom-up fundamental valuation models that are 10 years forward-looking.  We believe the discounted net present value of future cash flows is the best estimate of a company’s intrinsic value.  Because humans tend to anchor too readily to a single outcome or frame decisions too narrowly, we not only forecast our most likely intrinsic value scenario, our base-case price, we also test our assumptions through sensitivity analysis to establish a range of possible outcomes:  best case, base case, bear case and worst case.   

We then compare our valuation models to the stock price. When investing in a company, we look for the most attractive reward-to-risk opportunities, requiring at least a 2:1 anticipated upside-to-downside opportunity – and typically more. This can occur when the stock price falls into our bear- and worst-case scenarios due to short-term market inefficiency caused by temporary factors that do not negatively impact our long-term investment thesis. In most cases, we gradually scale into a position, taking advantage of stock price volatility. 

We do not compare valuations by looking at recent highs or multiples such as P/E ratios. We only want to invest in companies whose share price is selling at a significant discount to our proprietary estimate of its intrinsic value. In fact, we find the risk of investing in high-quality companies is actually lower after the stock price has dropped.

Can you tell us about a time in previous years where a large market drop created great buying opportunities for you?

Hollie: The most recent one would have been when the work-from-home bubble burst in 2022. And of course, there was the Covid crash in 2020. Before that, you'd have to go back as far as 2008 and the great financial crisis. In these moments, you have a wide swath of companies that are selling at a discount to intrinsic value.

So in any market drop we will look very carefully and identify those companies in our research library where we see the most attractive discounts to intrinsic value. More often, we have the opportunity to make these investments on a case-by-case basis. Over our 19-year track record, in a typical year we buy one or two new companies. But in these periods of market dislocation, we have many more choices happening simultaneously. For example, in 2022, we bought five new companies, and in 2020, we bought six new companies. In this current period, should volatility persist and lead to mis-pricings in high-quality, secular-growth companies, it might provide similar opportunities to buy high-quality companies that are on sale.

You are known as a growth manager, but how do your strategies tend to perform when markets drop?

Hollie: Many managers that do well when markets are rising often suffer in down markets — and vice versa. But what we think investors really want is someone who can play both offence and defence, and that is what we aim to do, as reflected in our up/down market capture statistics.

We believe the 2nd percentile ranking for our absolute and risk-adjusted returns since strategy inception in 2006 through year-end 2024 shows the success of our approach.