Market volatility is an inevitable part of investing. CY2018 was undoubtedly a tumultuous phase for the markets. Last year, the bellwether Nifty 50 index bobbled between the 10,000 and 11,000 mark.
Have a look at the Nifty 50 chart. From a peak of about 11,000 in January 2018, the index nosedived to the 10,000 level in just two months.
Source: ACE MF, PL Research
The largecap index soon found its foothold and gradually gathered momentum. By August 2018, the Nifty 50 surpassed its previous all time highs. However, the euphoria was short-lived. The IL&FS crisis cut short the Nifty rally, sending the index back to the 10,000 levels.
Since then, markets have been indecisive. The NBFC crisis, election worries, trade wars, Indo-Pak tensions, and a host of other global and domestic factors played with market sentiments. By the end of February, the market worries began to dissipate, as risks began to ease. The Nifty 50 is now back across the 11,000-mark.
Had one invested on February 1, 2018, when the Nifty 50 was at 11,016, by March 22, 2019, they would have been sitting on gains of 4%, with the index at 11,546. If you had invested a fixed amount at the start of every month, the returns could have been enhanced to 6%.
It becomes clear that investing in stocks isn’t easy, predictable or safe, at least in the short run. If you are not a risk taker or deeply committed for the long term, it will be difficult for you to digest such volatility or remain calm.
Participation is the key
In order to gain from the market, you need to participate. If you withdraw in fear or panic, you will miss the wealth creation potential of equities.
As can be seen in the chart above, those who chose to pull their money out of equities when the market plunged may have missed some of the market’s biggest gains because some of the market’s best days came right after periods of steep decline.
A decline can present opportunities to investors and fund managers to buy quality investments while they are temporarily undervalued. This can enable you to invest in high-quality companies at lower prices and capture additional value.
“Quality” stocks can help mitigate market volatility along the way. One also needs to complement a core portfolio of superior stocks with a satellite portfolio of thematic investments like momentum calls and alpha strategies to capitalise on the unique opportunities presented by the market.
By doing this, investors may well find they have a successful strategy for today’s unpredictable markets.
Diversify your risk
While there are several routes to deal with market volatility, the best ways to deal with it is through diversification. The best performing asset class changes from year to year. Last year, despite the turmoil in both equity and debt markets, in terms of returns, short-term debt led the charts with returns of 6%+. In hindsight, most investors would have been better off investing in Liquid Funds.
Yearly Return of Major Benchmark Indices Across Equity & Debt
Source: ACE MF, PL Research
From the table above, given the sharp correction in mid-and small cap stocks, now seems like a good opportunity to increase exposure to mid-size companies, as they have recovered strongly as seen in the past.
One should understand, that diversification does not assure a profit or protect against loss in declining markets. Diversification provides investors with the opportunity to reduce risk and enhance risk-adjusted returns.
It is necessary to invest as per your risk profile, with the right allocation to both equity and debt. A balanced portfolio can help reduce overall risk.
But this is not a one-time effort. You need to monitor your portfolio at regular intervals and rebalance when necessary.
Rebalancing ensures that you sell those assets that are at relatively higher prices and buy them at relatively lower prices. Thus, at the end of the process you end up with a mix of investments at reasonable prices.
By doing this, you remain invested even when the market seems unfriendly, ensuring your long-term investment success.
Yearly Returns of NSE Sectoral Indices
Source: ACE MF, PL Research
It is not only necessary to diversify by asset class, but based on investment styles as well. Investment strategies that take tactical sectoral positions can add value to your portfolio.
Invest regularly
Mutual Fund advisors always recommend investing in equity mutual funds through the Systematic Investment Plans (SIP). It is a strategy of equating your investments on a monthly basis throughout the year. By doing this, you get more shares or units of a given investment when prices are low and fewer when prices are high. Yes, you will end up averaging out your cost, even if you began at a market bottom. But, it is more preferable to get an average price than the high price on your long term investment.
Therefore, unless you have an investment that goes up and only up, rupee-cost averaging through systematic investing is a good tool to consider in volatile markets.
Take the past year for example. Out of the 199-odd equity mutual funds, an investment through SIP resulted in a higher return for as many as 95% of the schemes. We considered the 14-month period between 1-Feb-2018 and 22-Mar-2019. The investments were made on the 1st of every month and valued on March 22, 2019.
Thus, investors who stuck to their SIP investments were rewarded for their patience.
To sum it up,..
While there could be complex methods to deal with market volatility, the best ways to deal with it is thorough diversification and systematic investing (based on rupee-cost averaging).
The rollercoaster ride of the market is expected to continue, given that we are in an election year, corporate earnings are yet to pick up, and there are multiple global risks that continue to persist. Always keep a lookout for opportunities to ride out the short-terms dips and generate long term wealth.