5 Stock Market Investments That Can Keep you Safe in Good Markets and Bad
Investing in the stock market is a great way to grow your wealth over time, but it’s not without its risks. The stock market can be highly volatile, with prices that can fluctuate dramatically from day to day or even from hour to hour.
When considering investing in the stock market, it’s important to remember that there are ways to approach it with a defensive strategy. Defensive investing focuses on minimizing risk and preserving capital, which can help mitigate the potential for losses during times of market volatility.
That’s where defensive investing comes in – a strategy that prioritizes safety and stability over high risk and reward. While the returns may not be as high as other investment options, a defensive strategy can provide peace of mind for those who are more risk-averse.
In this post, we’ll take a deep dive into defensive investing, what it means, and how to do it effectively. We’ll also explore some of the safest sectors for investing and how they perform in both good and bad markets.
This post is a continuation of our series on Defensive Investing. Want to learn more?
- How to Invest Defensively In the Stock Market?
What is Defensive Investing?
Why is a certain investment type more defensive than others?
What are the important considerations to know if having a defensive strategy is right for you
- Does Defensive Investing Work To Keep You Safe?
Digging in to history, we look to see if investing defensively has worked to keep you safe.
Do defensive investments perform equally well in good markets?
YouTube Video or Read Below
Does It Help to Invest Defensively in the Stock Market?
I saw this wonderful tweet on Twitter today discussing a defensive portfolio and it got me thinking about safe investing.
It caused me to wonder. Is it possible to minimize the risk in the stock market by focusing on specific defensive investments? And, if the answer is yes, what stocks or ETFs tend to be affected less when we are in a ‘typical’ stock market correction.
So, thank you The Dividend Dominator, for the inspiration! It’s clear you are a defensive investor. He specifically recommends 5 defensive investments that you should have in your portfolio. Adding the following, REIT, a utility stock, dividend ETF, healthcare stock, and consumer staple. So, let’s dig in to each of these to learn more about them. And specifically whether they should be included in a defensive portfolio to provide a safe way to diversify your portfolio. Thereby helping you to minimize risk.
What Does it Mean to Invest Defensively?
Investing defensively means focusing on safety and stability over high risk and reward. This means prioritizing investments in sectors that are less affected by market fluctuations, economic downturns, and other external factors.
By mixing a range of different and uncorrelated assets, investors can build a defensive portfolio while still potentially maintaining much better returns than having your cash under the mattress or at a bank (which is basically the same thing these days).
Some of the most common defensive investment strategies include investing in stable dividend-paying stocks, bonds, and other fixed-income securities. Also investing in sectors that are less affected by market fluctuations, such as healthcare, consumer staples, utilities, and real estate investment trusts (REITs).
With this said, it’s important to build your portfolio according to your individual appetite for risk. Investing should be seen as a long-term strategy. Therefore sitting through a short-term decline, knowing that your investments will recover and grow significantly more than having the funds in cash is important to remember. But, this can be quite hard to do when all the news cycles are talking about the end of the world.
It was never my thinking that made the big money for me. It was always my sitting.Jesse Livermore
Understanding Investor Psychology
If you think about how to invest defensively, you must consider what happens in an economic downturn. What do YOU do when you are scared for your job? Or scared you might not have enough money to pay your rent or mortgage?
Generally speaking, you tighten your belt. You buy only essential items and stay away from purchasing more extravagant items like a new car. And, if you amplify this across the entire country with everyone doing the same thing, suddenly large businesses are severely impacted by no one spending money.
So, in the stock market what you’ll see in an economic downturn or the threat of one is a shift in investor appetite away from high-growth companies, particularly those in the technology sector, to businesses in less cyclical sectors.
The latter includes companies that benefit from all-around demand for their products, including essentials such as food, drink, and healthcare products. Remember, in a downturn, you will give up on the extravagant items, but keep purchasing and possibly even stock up on the items that you consider are essential.
You aren’t going to pass up on the medicine you take monthly that keeps you alive, or cold medicine when you get sick. You also aren’t going to turn off the heat in the house.
But you might skip the latest phone upgrade. Or take your car to the repair shop instead of trading it in for a newer one.
Can adding Real Estate make your Investment Portfolio safer?
Reduce Taxes, Less Volatility?
For your FREE Personalized Assessment
Which Sectors Should Be Added to a Defensive Portfolio?
When it comes to defensive investing, there are several sectors that are considered safer and more stable than others. Let’s take a closer look at some of the safest sectors for investing and why they should be a part of a defensive strategy.
As stated above, Defensive sectors are those that tend to perform relatively well during market downturns. They offer products and services that are necessary regardless of the economic environment.
Some of the most defensive sectors include:
The healthcare sector is one of the most defensive sectors for investing, thanks to the constant demand for their products and services. The sector includes companies that produce pharmaceuticals, medical devices, and other healthcare-related products and services.
Some of the largest companies in the healthcare sector include Johnson & Johnson, Pfizer, and Merck. Healthcare ETFs like the Health Care Select Sector SPDR Fund (XLV) and the iShares U.S. Healthcare ETF (IYH) are also popular investment options for defensive investors.
A recent example of healthcare stocks performing well during a market downturn occurred during the COVID-19 pandemic in 2020. While the overall stock market experienced significant volatility and declines, healthcare stocks and ETFs generally held up well. For instance, the Health Care Select Sector SPDR Fund (XLV), which is an ETF that tracks the healthcare sector, declined by approximately 27% from its peak in February 2020 to its low in March 2020, which was a smaller decline than the broader S&P 500 index.
Furthermore, within the healthcare sector, certain companies such as those involved in the production of medical supplies, pharmaceuticals, and biotech saw significant demand during the pandemic. For example, shares of Pfizer and Moderna, which developed COVID-19 vaccines, saw significant gains in 2020 as a result of increased demand for their products.
Just as these companies performed ‘extra good’ because of the circumstances of the moment, the opposite can occur. Healthcare stocks and ETFs can still be subject to volatility and other risks, such as regulatory changes and patent expirations.
Consumer staples companies typically produce goods such as food, beverages, household products, and personal care items, which are considered essential items for daily living. These products tend to have relatively stable demand, even during economic downturns, as consumers continue to purchase these items regardless of economic conditions. As a result, companies that produce these products tend to be more stable and less affected by market fluctuations, making them a popular choice for defensive investors.
During periods of market volatility or economic uncertainty, investors may look to consumer staples stocks and ETFs as a way to provide some downside protection for their portfolios. Some of the largest companies in the consumer staples sector include Procter & Gamble, Coca-Cola, and Walmart. Consumer staples ETFs like the Consumer Staples Select Sector SPDR Fund (XLP) and the Vanguard Consumer Staples ETF (VDC) are also popular investment options for defensive investors.
During the market downturn caused by the COVID-19 pandemic in 2020, the Consumer Staples Select Sector SPDR Fund (XLP) outperformed the overall market. From its peak in February 2020 to its low in March 2020, XLP declined by approximately 17%, which was a smaller decline than the S&P 500 index, which declined by around 34% during the same period.
One example of a consumer staples company that performed well during this period is Procter & Gamble (PG), which is one of the largest companies in the consumer staples sector. PG produces a wide range of household products, personal care items, and other consumer staples that are in demand regardless of economic conditions. During the pandemic, PG saw increased demand for products such as cleaning supplies and personal hygiene products, which helped to support the company’s financial performance.
PG’s stock price declined from approximately $125 per share in mid-February 2020 to a low of around $96 per share in mid-March, but then rebounded and ended the year with a gain of approximately 10%.
Another example of a consumer staples company that performed well during the pandemic is Walmart (WMT). While Walmart is primarily known as a retailer, it also has a significant presence in the consumer staples sector through its grocery and household products divisions. During the pandemic, Walmart experienced a surge in demand for essential items such as food and cleaning supplies which helped to support the company’s financial performance.
Walmart’s stock price declined from approximately $118 per share in mid-February 2020 to a low of around $102 per share in mid-March, but then rebounded and ended the year with a gain of approximately 23%.
Utility stocks tend to perform relatively well in bear markets compared to other sectors. This is because utility companies provide essential services like electricity, gas, and water. Items that people and businesses require regardless of the economic environment. Examples of utility companies include Duke Energy, Dominion Energy, and Southern Company.
That being said, utility stocks are not immune to market downturns. Their performance can still be affected by factors like interest rates, regulatory changes, and the overall health of the economy. Additionally, some utility stocks may be more sensitive to market conditions than others. This is dependent on factors like their specific business model, geographic location, and level of debt.
Usually what you find during a correction or bear market, utility stocks and ETFs that invest in utilities may experience relatively smaller declines than other sectors. And while utility stocks may offer some downside protection during a correction, they may not perform as well as other defensive sectors such as consumer staples or healthcare. This is because these sectors may have stronger growth prospects or may be less sensitive to changes in interest rates.
Investors should also keep in mind that while utility stocks and ETFs may provide some downside protection, they may not provide as much upside potential during a market recovery. This is because utility stocks are often viewed as income investments. They do not have the same growth potential as other sectors.
A recent example of how utility stocks performed during a correction can be seen in the first quarter of 2020, which saw a bear market due to the COVID-19 pandemic.
During this time, the S&P 500 index declined by approximately 20% from its February 2020 peak to its March 2020 low. However, the utilities sector performed relatively well compared to other sectors, with the Utilities Select Sector SPDR ETF (XLU) declining by approximately 14% during the same period.
Can adding Real Estate make your Investment Portfolio safer?
Reduce Taxes, Less Volatility?
For your FREE Personalized Assessment
Honorable Mention – REITs
Real Estate Investment Trusts (REITs) are companies that own and manage income-generating real estate properties such as apartments, hotels, offices, and shopping malls. REITs offer investors a way to invest in real estate without actually owning the physical property. They generate revenue from rental income, lease agreements, and property appreciation.
REITs are considered defensive investments because they provide a steady stream of income. They typically perform well in a down market. During market downturns, investors typically flock to safer investments, such as REITs, that provide a steady income stream. Additionally, REITs are often considered inflation-resistant as they can increase rents to keep up with rising inflation.
One example of a REIT is the Vanguard Real Estate ETF (VNQ). During the 2008 financial crisis, VNQ declined by 36%, which is less than the S&P 500’s decline of 56%. However, it took VNQ four years to recover to its pre-crisis peak.
That being said, it’s important to note that not all REITs are created equal. Some are more sensitive to economic conditions than others. For example, REITs that own properties in industries that are particularly vulnerable to economic downturns, such as hotels or shopping malls, may be more negatively impacted during a recession.
REITs Defensive, but More Volatile
Also, REITs have a higher correlation with the stock market than the other defensives mentioned above. This is why I mark it as an honorable mention. When people are fearful, they tend to want to exit all their investments. And since REITs are easily bought and sold through your brokerage account, they tend to decline just as much as traditional stocks.
Having said the above, I do think Real Estate is an important consideration for the right investor. Want to find out more about REITs and whether they have a place in your portfolio, check out Real Estate Private Equity vs REIT
A Definitive Guide on Real Estate Investing
If you are interested in learning more about adding real estate to your portfolio, please check out our Definitive Guide on Real Estate Investing. And whether owning directly or Investing in Real Estate Private Equity could benefit you. There are many advantages including incredible tax reduction, diversification, and steady income. But there are also disadvantages.
Honorable Mention – Dividend ETFs
Dividend stocks are stocks that distribute a portion of their profits to shareholders in the form of cash payments or additional shares of stock. These payments are known as dividends and they can provide investors with a steady income stream.
Some consider Dividend ETFs defensive investments as well, since during market declines, they provide peace of mind. Investors receive a stable source of income regardless of market fluctuations.
However, it’s important to note that companies that distribute dividends are in all sectors. This includes very volatile technology and growth sectors which will fall hard during a correction. Just remember that not all dividend stocks and ETFs are defensive. Some may invest in companies that are more sensitive to market conditions or have higher levels of volatility.
But, it’s hard to argue with the diehard dividend junkies that swear by them. They preach that, even though the stock has the potential to fall 30% right next to the rest of the market, you are earning free money with the quarterly dividend that is distributed all along the way.
As a result, it does provide steady income generation even in bad markets. And, if you elect to reinvest the dividends, you are being handed more shares when the share price is down. This will reward the patient investor handsomely once the market recovers.
What Are Defensive Investments?
In conclusion, defensive investing can be an effective strategy to protect investors from market volatility and downturns. Several sectors are considered safe and stable for investing, including healthcare, consumer staples, utilities. These sectors provide products and services that are necessary regardless of economic conditions, making them less affected by market fluctuations. REITs and Dividend producing stocks or ETFs can also provide defensive protection as well.
There is no one-size-fits-all approach to investing, and what works for one person may not work for another. By carefully considering these factors, you can create an investment strategy that is tailored to your unique needs and goals. Remember, investing always comes with risks. By making informed decisions and staying disciplined, you can maximize your chances of success and achieve your financial objectives over the long term.
Want to dig deeper into Defensive Investing? You might check out our follow up post, How to Invest Defensively in the Stock Market
Share your thoughts below. What Defensive Investments do you prefer? Have you found they have helped you?
Keep reading to learn more about: Defensive Investing - A Guide to Safe Investments
- How to Invest Defensively In The Stock Market
- What are Defensive Investments?
- Does Defensive Investing Work to Keep You Safe?