The strategy must include sticking to long-term plans, setting realistic goals, ensuring diversification and periodic rebalancing of asset allocation
Markets can be cruel because of its ups and down. After the Union budget in February, we have seen the market playing a roller-coaster game. The next 9-10 months are expected to be pretty volatile due to domestic politics, which will give anxiety to investors. The US-China trade war, European politics will create nervousness. The rising crude oil prices and the rupee’s weakening may make the market jittery. Thus, should we stay put or keep investing considering the low valuations and cheap prices.
Investors with a strategic plan may feel comfortable and confident and do not have to worry about the market volatility. The market has the tendency to shock investors and us at times. But with a long-term plan, clear and precisely directed goals, you can navigate through these market ups and downs to achieve your financial goals. But how to do that?
Diversification: It benefits investors who are concerned about risk and reward. When the portfolio is well diversified across all asset classes, the risk gets balanced, productivity gets better and the overall effectiveness and efficiency of the portfolio improves. As predicting the market is futile, only safeguard against the market volatility is diversification.
Investing in multiple asset classes and securities with a positive expected return and low correlations can do diversification. It means values tend to move in opposite directions relative to one another in a volatile market.
Asset allocation & rebalancing: Asset allocation is most important and basic component of investing. It means how much to invest in equities (large, mid and small caps), fixed income, bonds, cash and real estate.
When it comes to investing in equities, it’s important to invest in quality companies with strong fundamentals and management. Investors also need to check cash flows, earnings and growth of sales of companies.
When investing in fixed income (bonds), you sho?uld check the credit rating, bond issuer and coupon rate. Generally these fixed incomes have a lower rate of return and is meant for investors who don’t have an aggressive risk-taking capacity. But that doesn’t mean you should stay away from it as it plays an important role in asset allocation by balancing risk and reward of portfolio.
Once asset allocation and diversification is done, it’s turn of rebalancing. It means to adjust your holdings to maintain targeted asset allocation.
Let’s take the example where your portfolio comprises 20 per cent stocks,60 per cent mutual funds and 40 per cent fixed income (bo?nds). Now if stock prices go up for a few months, your allocation to them mi?ght rise to 40 per cent and mutual funds rise to 70 per cent. It means you have to sell some stocks and mutual funds and book profit to get back to your desired level. It is pertinent to maintain your asset allocation to keep the risk tolerance at comfortable level. The greed is good but then we need to keep a tab on it.
The rebalancing should be done as per the market dynamics or chan?ges in the career, jobs or lifestyle goals, etc.
Emotions: Emotions play a big role in our life. They can’t be avoided as we humans are wired that way. But to keep it under control is vital to navigate a volatile market. Thus stick to your long-term plan and goals. When volatility increases, investing can become emotional. It can lead to bad decisions and negative impact on the financial future. Thus in the times of a volatile market, stick to the original plan and, if possible, invest more as valuations could be low.
Recency bias: It’s the tendency to think that trends and patterns in the recent past will continue in the future. It impacts certain conclusions, decisions or behaviours. If the market is going down, investors with the recency bias think that it will continue to slide and they refrain from making further investments. In fact, it’s the time to increase allocation to mid or small caps, depending upon the time horizon.
To avoid recency bias, check your risk tolerance level, stick to long-term and short-term goals; check your financial assets and liabilities and regular cash flows; and determine how much time you have to save so as to achieve the financial goals. It will help minimise impulse-based decisions and achieve long-term goals.
In the times of volatility keep you war chest ready for rich pickings. In such times, most investors become fearful and hold back investments leaving behind a wide range of low or undervalued securities with high return potential.
The SIP route: If you invest via systematic investment plan (SIP) you invest every month and at the same time don’t seek to time the market. The rupee cost averaging helps accumulate more units, permit more diversification and allow advantage of compounding.
To me volatility is just a commotion, which disturbs investors. In fact, it’s the time to invest now and reap benefits later. The only game-plan to navigate the volatile market is to stick to your long-term plans, set realistic targets, invest in quality funds/stocks, know your asset allocation, ensure proper diversification, periodically rebalance and control your emotions.
(The author is director of Aaneev Wealth)