Protecting Your Portfolio in Uncertain Times
As investors, we’re often faced with the dilemma of preparing for the unknown while still participating in the market’s upside. This delicate balance is crucial, especially when the economy is showing signs of weakness and valuations are high.
The Importance of Risk Management
Just like preppers who prepare for unexpected events, investors should also prioritize risk management. This doesn’t mean building an underground bunker, but rather maintaining a reasonable risk posture. By doing so, you’ll be better equipped to navigate potential market downturns and protect your portfolio.
The Madison Covered Call & Equity Income Fund
Our fund takes a defensive approach by owning a high-quality portfolio of individual equities and selling equity call options on these holdings. This strategy provides a solid total return platform, including capital appreciation and a high distribution rate sourced from call option premiums and realized capital gains. Our concentrated, actively managed portfolio offers a risk-reduced way to participate in US equity markets.
Third Quarter Review
The third quarter saw the S&P 500 grind higher despite weakening economic data, high valuations, and rising global risk factors. The “AI” trade drove large cap growth companies to new heights, but this trend seems to have run its course. Meanwhile, the Federal Reserve’s long-awaited rate cut finally occurred in September, but its effects won’t be felt for many quarters to come.
Economic Outlook
We’re not convinced that the economy is as strong as some claim. The impact of interest rate changes has a lagged effect on economic activity, and the weakness we’re seeing now is a result of the tightening of rates that began in 2022. With numerous crosscurrents facing the economy, we believe it’s essential to maintain a reasonable risk management posture.
Fund Performance
Our fund lagged the S&P 500 in the third quarter, but our defensive posture and sector allocation added relative value. We benefited from an overweighting in Utilities and Consumer Staples, as well as an above-average exposure to gold-related companies. While our call option overlay and high cash positioning detracted from performance, we remain committed to protecting against downside risk.
Looking Ahead
We expect economic fundamentals to weaken, and consensus earning growth projections may be too optimistic. With valuations relatively high, any meaningful reduction in earnings growth could lead to multiple compression and higher volatility in equity markets. As such, we’ll continue to err on the side of caution and maintain a defensive posture.
By prioritizing risk management and adopting a defensive strategy, you can better navigate uncertain times and protect your portfolio. Remember, it’s always better to be prepared, even if the world doesn’t come to an end.
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