It seems a long time ago now, but on 12 December last year, the FTSE 100 index reached 6,610. That was before the credit crunch crunched and the ‘Banking Crisis'. This year the Footsie sunk down to a low of 3,665 on 27 October – a fall of over 44% in just 10 months. UK shares have since rallied a little since then, but it is a brave person (or a fool) who claims to be sure the worst is over.

If you have money to invest, the uncertain outlook may tempt you to leave your cash on deposit or lock into some of the attractive fixed rate bonds on offer. However, such a strategy has its own risks. Stock market volatility is not a one-way street, how ever much it might seem like it at present. When share prices recover, the move up can be very fast.

Research undertaken by one of the UK's largest fund managers, Fidelity, shows that not being invested in shares – even for only a few days – can hit overall returns hard. For example, over the last 15 years to 30 May 2008, just missing the best 30 days of UK stock market performance would have reduced the average net total annual return from 8.89% to 1.64%. Similar results apply to investment in the US and main European markets.

There are several ways in which you can keep your exposure to share-based investments, but limit the risk of capital losses:

•  Capital Protected Growth Plans At their simplest, these plans offer you a return linked to a stock market index (eg FTSE 100), but with 100% capital protection at the end of a fixed term. From time to time National Savings & Investments offer a version of this plan (called the Guaranteed Equity Bond), but because it is structured as a deposit with all returns are subject to income tax, it is not tax-efficient.

There are many variants on the growth plan. For example you could choose a plan that offers a fixed rate of return provided the index does not fall or one that gives a return that is a multiple of the index performance, subject to a cap.

•  Regular Investment One way to take advantage of market volatility is to make regular investments of a fixed amount. The mathematics is quite simple: you will buy more shares/units when prices are low and fewer when prices are higher. Over a period of a few years, the result can be that the average price you have paid is lower than the average price for the period because your investment has been weighted towards cheaper prices.

The effect, known as ‘pound-cost averaging', is widely recognised but for some reason does not receive the attention it deserves. It can also be applied to lump sum investments. For example, rather than investing, say, £12,000 as a lump sum, you could drip feed your investment over a year at £1,000 a month.

•  Absolute Return Funds In the past few years several major investment managers have launched absolute return funds, some of which are primarily invested in shares and share-related instruments. As the name suggests, these funds aim to provide a positive return regardless of market conditions. The track record so far shows that the goal of absolute returns has proved achievable by some managers, but a challenge for others.

ACTION
For your existing investments, the most appropriate course of action may be inaction. If you are a long term investor, disinvesting now implies you will be reinvesting later on. That means running the risk that you miss those key performance days mentioned above, as well as incurring the costs of reinvestment.
For new investments, there are a range of options to limit possible future losses, although as a quid pro quo, you may also end up restricting your future gains, too.

Don't panic! Before you take any investment action, do ask us for advice.

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This news item is provided strictly for general consideration only and is based on our understanding of law and HM Revenue & Customs practice as at July 2008. No action must be taken or refrained from based on its contents alone. Accordingly no responsibility can be assumed for any loss occasioned in connection with the content hereof and any such action or inaction. Professional advice is necessary for every case.

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