How to stay afloat and make money during a volatile market?
Stock markets have been on a roll over the past year and a half, although there have been small corrections, including around the recent 10 percent over the past week. Valuations have remained high throughout this journey compared to history and investors left on the sidelines for a perfect entry never really had a chance. Its only those who invested and stayed throughout had made any money. Thus, the constant fear of a correction deprived these investors of good returns.
The liquidity conditions, the absence of better alternatives and the global mode of risk across the spectrum of investors had enabled the current boom. Anyone can guess what would happen in the immediate future and how the markets would behave. You have to understand that the markets are slaves to long-term gains, always. While the primary reasons were the reasons for the current boom, the catalyst has been the improvement in profits and growth prospects of Indian companies for the high market levels. In such cases, it is difficult to make new investments or even stay invested. While the craving for higher returns is punctuated by the fear of a market correction and that is why the volatility increased. So, should we become defensive and completely change the allocation or even stop investing more in the market? Both choices could become obvious counterproductive in the wake of the recent market rally. What are the options with the investor then? The best way to approach these situations is to follow these simple steps.
You must always have well-defined goals; it helps to stay rational in these uncertain times. In a goal-based investment, we have a clear understanding of why the investment is being made and have set time frames that allow us to stay focused or stay focused. It helps not to give the market emotions while still being invested for the goal. Remember that only those who stayed invested would realize the gains.
Asset allocation is still the key, but grows in importance in these situations. And creating a portfolio is essential. A portfolio of assets or securities would allow the investor to have better exposure to the markets and its various segments. Of course, it is imperative to derive the allocations according to its risk profile and its schedule. A well-suited asset allocation allows investors to benefit from better risk-adjusted returns.
Diversification is another essential aspect to be aware of. Building a portfolio with less correlation between securities helps to effectively counter market cycles. Even in a raging bull market, there would be assets or securities that might not be affected and one could judge whether they were of value. A contrarian approach with a decent allocation not only reduces risk but also improves portfolio returns.
Also, it is important to rebalance the portfolio, even frequently if necessary. This makes it possible to bring down an asset or a security which has taken off too quickly and by reducing the exposure leads to contain the risk associated with it. This also helps to avoid a bad allocation by bringing an essential balance to the portfolio. Rebalancing the portfolio allows participation in all markets while maintaining gains or reducing losses in portfolios.
One could also have some of the shared money as sin money for betting. This is intended for tactical allocation within the portfolio, but should be done within their respective risk tolerance levels. Often, investors fail to distinguish these bets and process such an allocation to the larger portfolio, resulting in losses or unproductive assets within the portfolio. So, this may not be suitable for all investors and should take a wise call.
Another tip is to stick with systematic investing or laddered investing. The use of a systematic transfer plan (STP) or a systematic investment plan (SIP) allows the capital to be exposed at regular intervals and thus reduces the risk of loss in the event of a sudden fall in the market. Also, we end up with dry powder to take advantage of such falls by infusing part of the money. However, these solutions are unlikely to provide foolproof strategies. But it certainly helps counter market volatility to a large extent while helping to break out of inertia.
(The author is co-founder of ‘Wealocity’, a wealth management company and can be contacted at [email protected])