Bull markets are born on pessimism, grown on skepticism, mature on optimism, and die on euphoria. The time of maximum pessimism is the best time to buy, and the time of maximum optimism is the best time to sell.
The euphoria in the Indian stock markets is palpable and can be seen in the sheer glee of the pink dailies while talking about the new heights being scaled by Sensex or Nifty.
However, recently in an interview, Uday Kotak burst to some extent this Indian equities bubble. He talked about how too much of Indian retail savings is flowing into a few hundred stocks thanks to Mutual fund SIPs. He warned of mid and small cap funds being bloated with the BSE Small Cap Index PE at 129 and the BSE Mid Cap Index PE at 50. Both these PE are higher than at the time of the tech bubble.
Uday Kotak is not the only one recommending investors to exercise caution with the euphoria. However, long-term investors in equity markets must realize that a correction or crash is not as scary as it sounds.
Sure, it does seem like winter is coming (refer: Game of Thrones). However, we can ride out this winter if we prepare for it while the sun still shines.
Take these 7 steps to ensure the correction doesn’t end up ruining your equity party plan:
Be mentally prepared for it
Knowing and accepting the fact that something might happen just prepares us better for it so that we can act accordingly.
Before you decided to invest in the stock market, I can only hope you did it with the precise understanding that stock markets are akin to roller coasters. The higher they go, there is a point where the drop is inevitable.
Assuming that the only direction for the stock market to progress to is up is perilous and can only lead to a faulty view.
Do not indulge in panic sellingStock markets are an avenue where rationality trumps intelligence. The day you let your emotions dictate your actions in the market is the day you announce your doom. Click To Tweet
Unless a company like Satyam is going bankrupt and there is a company-specific irreversible problem, DO NOT SELL YOUR STOCK.
There are 2 factors affecting stock prices – macro and micro. Macro indicators are the broad economic and global factors that will affect the entire market. Most of these indicators are something the market will ride out with time and should not immediately trigger a response mechanism of selling. Also, remember that any loss you see or calculate is only on paper until the time you actually sell to seal the deal.
Micro factors are company-specific indicators. Even in these cases, unless there is something of an irreversible nature which could end up in dissolving the company, panic should not be your first reaction. Consider the case of Infosys. There were a lot of concerns at the time of the Vishal Sikka ouster and enough people indulged in panic selling. Infosys as a company is too big to fail and is headed by a strong board. Selling immediately would not have been ideal.
I, on the other hand, bought a few shares at that time, in August last year at Rs. 980, looking at it as an opportunity. Today, in less than 6 months the stock is up almost 20% to trade at a price of 1176.
Do not liquidate any SIP
Before starting any SIP journey, I am sure most of you would have read about the top benefit of SIP – rupee cost averaging.
Systematic Investment Plans work on the core idea of investing a specific amount into selected mutual funds every month. When the price is high, you end up buying less units whereas when the price is low you get more units for the same amount.
Now think about it – isn’t a market bubble then the best time to remain invested in a SIP? You end up buying more units at the same cost and when the market starts to rally you will have more units to benefit from.
Ensure you are investing only for long-term goals (with a minimum horizon of 5-7 years) in the stock market
A thumb rule of financial planning is to know the time horizon for your financial goals. If you are looking to buy a new car next year or go for a holiday this year, stock market is not the vehicle for your savings.
However, if you are looking to invest for your 10-year old child’s higher education or the down payment for a house 7 years down the line, stock markets should be considered seriously.
The fact to remember is that stock markets will always be a volatile investment route and suitable only for long-term investments. You might be able to generate decent results in the short term but that would just be a very lucky scenario and little else.
Consider the major global downturn of 2007-08. The numbers below show the closing figures for BSE Sensex and Nifty starting January 2008.
If you invested at the peak of the downturn and it was for a short horizon of 3 years, indices like Sensex and Nifty displayed meager compounded annual return rates of 3.60% and 4.50% respectively, failing to beat inflation. In this period, debt products like fixed deposit and bonds would have yielded much better returns.
However, had you remained invested for 7 years from the lowest trough of Jan 2008, your compounded annual rate of return on Sensex would have been 7.88% and Nifty at 8.37%. The two figures are only the indices and strong individual mutual funds or stocks would have performed better than this market average.
As you can see, being invested in the stock market for a longer horizon is a smart move.
Do not be hooked to the financial media
We humans, are a risk-averse lot – we would rather avoid risk than gain the same money. In the primate days, being risk averse was key to survival. Unfortunately, that trait has traveled with us through the centuries.
The business of media is built on two key pillars – negativity and sensationalism. Pick a newspaper near you and flip through it for a day. Try and make a note of the number of negative stories vis-à-vis the positive ones. I can bet that the negative ones will easily win that race.
There is a TV on each floor of my office where business channels play most of the day. Imagine 2 scenarios. One, there is a reporter outside the BSE office talking about the market plunging 500 points, talking to harrowed brokers, people crying and detailing how they lost their savings and literally screaming into the screen.
In the second scenario, the anchor is calmly reading out that the market lost 500 points but how all is not lost and that this is a short-term scenario which will play out in due course of time.
Which type of reporting will sell more?
My suggestion in a time of bear market – crawl through financial newspapers and be picky about what you read. Do not get hooked to the negative and sensational messages which are their bread and butter.
Look for deals
This is the best time to learn a little about the fundamental research to be done before buying a stock or a mutual fund.
It’s funny that while the red and white of a sale banner attracts all of us to that store, the red on the stock market ticker does not have the same effect. In some ways, it really is sale time at the stock market as a lot of stocks end up shedding their bloated premiums and trading on bare minimum prices.
Learn the best way to recognize a good deal and cherry pick potentially good stocks.
I do know it is not easy to see potential losses piling up. I maintain an excel file with my investments and whenever I track the prices, one of the columns is also to do with the gain/loss percentage. When I see a loss percentage and that too going higher, the temptation is very strong to sell and get out of it.
Know that market crashes on an average last 2-3 years. For a horizon of at least that long a period, you must not depend on stock market as your income. As pointed out earlier, you are sorted if you look at the markets for long-term financial goals. If you had invested earlier with long-term financial goals in mind, which are now 2-3 years down the line, then now is a good time to redeem those stocks.
This is also the time to ensure that the rest of your financial planning fundamentals like insurance and emergency funds are in place. Emergency funds will help you to not require equity investment liquidation in any scenario. Insurance in terms of health or life will give you enough mental peace to hopefully not indulge in panic selling.
If winter is indeed coming, then it is good to be prepared for hibernation. When squirrels hibernate, they prepare for it in good weather. Take this time to prepare in case of a winter, long or short.
In case of any added suggestions to these ideas, let me know in the comments or email me at firstname.lastname@example.org
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