Often sitting on your hands and doing nothing is a good investment trait. Too often behavioural biases lead to too much trading and particularly selling low and buying high that patience can avoid. However, when your starting valuation points to low long-term returns this strategy seems predetermined to deliver plenty of ups and downs (i.e. risk) for very little long-term reward.

This again is often a valid strategy as interest rates often increase in the latter stages of a bull market to try and slow an inflationary or overheating cycle, so moving to cash does not seem too painful. This time around though cash seems guaranteed to give you negative real returns for the near future at least. Cash does though have one very useful property it protects capital and gives you dry powder to invest in assets, if and when they become attractive.

This sounds so elegant and attractive, simply sell when markets are expensive and buy when they become cheap again. In practice it is virtually impossible to execute*, you may time the odd move but doing it repeatedly would need all the luck of the Irish and more.

Even when a stock market is at all-time highs and appearing to offer low future returns that does not mean that every stock has the same attributes. There are quite often individual stocks or sectors that are more attractively valued and offer an important “margin of safety” as originally noted by Benjamin Graham and expanded on by Seth Klarman. These opportunities are obviously much more plentiful after markets had had a major sell off (e.g. post GFC) but still exist at other times but require a patient and in-depth research process to identify. 

When you are potentially looking at range bound markets for an extended period of time, then riding the ups and downs is not an overly attractive proposition (see option 1) but if you could add some “insurance” to protect against the material down periods (i.e. protect capital) you can then take advantage of the ups when they occur without needing to “time” the markets. Sounds obvious doesn’t it? This can be done by buying put options which cost a premium upfront (like insurance) and provide significant rewards if the underlying assets fall or volatility picks up. There is a downside though, as like insurance, you pay premium upfront so this will blunt returns if markets remain benign.