How to manage market volatility before it manages you

Facing volatility and uncertainty across the board — in financial markets, government policy and the direction of the economy — you may encounter a barrage of investor questions: What’s next for the markets? Will rates go up or down? Will tariffs spark inflation? A recession? How are my investments holding up? Do we need to make changes to my portfolio?

At the core, these questions go to managing risk and volatility. Capital Group’s Capital Solutions Group, which helps oversee $495 billion in multi-asset portfolios, takes an “always-on” approach to managing risk: it’s always a priority, whether markets are rallying, declining or fluctuating wildly. Capital Group's multi-asset portfolios include target date and college target date portfolio series, retirement income series and model portfolios.

“The most effective form of risk management is proactive – it’s always on, it’s embedded throughout the investment process and it’s not reactive,” says CSG’s Glenn Cagan. “Reacting to turbulent markets can lead to emotional decision-making and less than optimal long-term investment outcomes.”

CSG’s process for managing volatility is an ongoing risk management approach that includes four key pillars:

• Investor objectives: We start by aligning portfolio structure to long-term investor objectives. Every portfolio starts with an objective. What is most important to the client? Growth? Income? Preservation?  Market volatility shouldn’t change those long-term investor objectives.
  
  “The first question you ask about a portfolio is always the same: what are we trying to achieve?” says Samir Mathur, who chairs Capital Group’s Portfolio Solutions and Global Solutions committees. “If it’s a retirement income portfolio, the answer might be higher returns needed for sustainable withdrawals over a longer period of time. In that case, you might be looking for higher return potential, which can come at the price of slightly higher volatility. In that case, higher volatility can be consistent with what you are trying to achieve.”

• Asset allocation: In staying disciplined in pursuit of those long-term goals, Strategic Asset Allocation (SAA) is the first line of defense. Long-term allocations in a portfolio are aligned with investor objectives, risk tolerance and time horizon. During volatile periods, it is important to remember the SAA keeps you oriented toward your objectives. Think of it as your north star in both calm and turbulent markets.

• Allocation ranges: Within the discipline of strategic asset allocation, we set guardrails around asset allocation – Strategic Allocation Ranges (SARs). This enables portfolios to adjust from the bottom up via active management in measured ways to market conditions, without deviating from long-term intent. It allows for disciplined responses to market volatility.

• Selection and monitoring of underlying funds: Finally, at the fund level, we believe in selecting actively managed funds and then continually monitoring them. This empowers fund managers, who are most experienced in their particular area of the market, to make adjustments nimbly rather than waiting for top-down changes in portfolio construction. Managers can make shifts at the company level, across geographies, manage duration and credit exposure. These moves may not be entirely defensive – managers can capitalize on opportunity or reduce exposure to a risk in real time. This allows portfolios to remain dynamic without compromising strategic integrity. Importantly, portfolio holdings need to be actively monitored to make sure they are acting the way we expect them to. Are funds we rely on to play defense holding up well? Are fixed income funds playing their role? Are equity funds flexing in response to market and economic trends?

“The combination of strategic asset allocation to meet objectives, coupled with the flexibility and nimbleness of actively managed funds, gives us two layers of active management,” Cagan says.

Flexibility in action: How portfolios can shift from the bottom up

The first quarter of 2025 provides a timely example of how shifts made by underlying funds allow model portfolios to adjust from the bottom up in real time. One aspect of market volatility in early 2025 has been a market broadening trend that has benefited non-U.S. equities relative to U.S. equities. Does this mean portfolios need to be re-structured from the top down? Not if underlying active funds are flexible. As shown below, funds in our active model series were net sellers of U.S. equities and net buyers of European equities in 1Q 2025. 

“Over the past few years, the equity market has become a very concentrated market – and a lack of diversity has been rewarded,” says Mathur. “But we believe that from a long-term perspective, it still pays to be diversified. That can mean geographic diversity and investing in different types of companies and business models. Our mantra going into this type of environment is that it’s okay to give up a little return in rising markets, if your portfolio holds on better in downturns. It should be a smoother ride as well.”

Put volatility in its place

It’s also important to put volatility in context: of course it is a risk to portfolios and it rattles investors, but it is one of many risks investors must manage, says Mathur. “Volatility sits alongside other risks – foreign exchange risk, interest rate risk, correlation across asset classes, geopolitical risk, etc.  And volatility is not the be-all end-all risk. The biggest risk is not meeting the portfolio’s long-term objectives.”

While market volatility can be uncomfortable for investors and advisors alike, more extreme markets can present an opportunity for advisors to check in on how their client portfolios are behaving and to see if the underlying funds they’ve chosen are behaving as expected.

When markets are calm or generally strong, you may not learn a lot about the true nature of your investments, but you can use market volatility to your advantage to test hypotheses you had when initially constructing portfolios. For example, are my more conservative portfolios holding up better than my more aggressive ones? Are the funds I included to minimize drawdown providing that ballast vs. more volatile, growth-oriented funds? Is my fixed income diversifying my equity risk where it should?

Advisors can also use market volatility to deepen client relationships. Turbulent markets present a window when clients may be especially interested in discussing market fluctuations and how they relate to long-term goals. Advisors can use that opportunity to lay out their approach to risk management.

“Volatility is a normal aspect of markets, you should plan for it in your portfolio construction process and in your ongoing risk management process,” adds Cagan. “Committing to an ‘always-on’ process helps you have the discipline to stay on course toward long-term goals, and just as important, it helps you avoid emotional or reactionary decisions that could derail portfolios.”

Want to take a more flexible, active approach in your client portfolios?

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