How to manage your investments in times of market volatility?
Since the start of 2022, the stock markets have been experiencing wild swings on the upside and downside. The start of the Russia-Ukraine war at the end of February 2022 only added to the high market volatility. This blog will focus on how to manage your investments in times of market volatility. Let us start by understanding what market volatility is.
What is market volatility?
Market volatility can be defined as the sharp and unpredictable movements in the index levels (such as Nifty 50 or Sensex 30) or share prices of individual companies. These days intraday movement between the Nifty 50 high point and low point of the day is much higher than what it used to be earlier. Earlier, during a trading session, the Nifty 50 Index would usually move in a band of 1% (difference between the high and low points). But, these days, movements of 2-3% in a day are common.
In the same way, earlier, most individual stocks would move in a band of 2% during a trading session. But, these days, movements of up to 5% in a day are common.
Another aspect of market volatility that is quite common nowadays is unpredictable market direction. On quite a few occasions, we see a gap up opening in the morning, but the gains are not sustained, and there is a sell-off in the second half of the trading session. On quite a few occasions, we see a gap down opening in the morning, but the down move is not sustained, and there is a recovery in the second half of the trading session. So, we see less of trend days, and market movements are very unpredictable.
Chart: Nifty 50 year-to-date movement
As seen in the above chart, since the start of 2022, the Nifty 50 Index has been down by 10% (as of 29 June 2022). However, observe the up and down movements daily or weekly, and you will get an idea of how volatile the Nifty 50 Index has been in these six months.
What events are causing the current volatility in the market?
Some of the events causing the current volatility in the market include:
As seen in the above table, so far in the first half of 2022, the Indian stock markets have seen equity sales of Rs. 2.16 lakh crores. It is the highest-selling by FPIs that the Indian stock market has seen in any calendar year.
- Since the start of 2022, there has been a lot of uncertainty over whether Russia would invade Ukraine as there was a build-up of the Russian military at the border. At the end of February 2022, the market's worst fear came true, and Russia invaded Ukraine. It resulted in a spike in crude oil prices, other commodities, food grains, etc.
Chart: Nifty VIX
The above chart shows how the Nifty VIX (volatility index) was at its peak at the end of February 2022 when Russia started the Ukraine invasion.
High inflation and increase in interest rates
- Inflation was already rising in most countries, including India and the United States, even before the Russia-Ukraine war started. The war only aggravated the inflation problem. Most Central Banks across the globe have started hiking interest rates since March 2022. High inflation and an interest rate increase have led to stock market volatility.
Chart: RBI Repo Rate
The above chart shows how the RBI has increased the repo rate twice this year, from 4.0% to 4.9%. The RBI is expected to hike interest rates further in future.
- The lockdowns in some Chinese cities such as Shanghai and others in May 2022 have led to disruptions in supply chains. These disruptions have led to higher market volatility.
Managing investments during volatile times
In the earlier section, we saw how the markets have been very volatile, and the Nifty 50 has corrected by 10% since the start of 2022. However, investors need to note that this small 10% correction in 2022 has come after a massive rally in 2020 and 2021. The daily market volatility can make investors nervous. However, it is important that investors stay focused on their financial goals during these times.
1. In the long run markets overcome volatility and price corrections
Investors need to understand that volatility is an inherent part of stock markets. While markets will always be volatile and undergo corrections in the short run. However, in the long run, markets have always overcome short-term volatility, recovered from earlier losses, and made new all-time highs.
Chart: Sensex journey to 50,000
The above chart shows how the 40-year Sensex journey from 100 to 50,000 was full of volatile events. During this journey, the Sensex fell by around 50% on two occasions (2008 and 2020) and around 25% on quite a few occasions. Yet, over time, the Sensex overcame the volatility and corrections, recovered the earlier losses, and went on to make new highs. Despite all the volatility during these 40 years, the Sensex multiplied investor wealth by a whopping 500 times!
The lesson here is that markets always reward long-term investors. So, despite all the market volatility and correction, investors should stay invested.
2. Follow appropriate asset allocation
Investors should always follow appropriate asset allocation with investment in equity mutual funds, fixed income, gold, real estate, etc. When equity markets are volatile and undergoing correction, fixed income cushions the overall portfolio fall due to equities and supports it. During uncertain times, gold usually does well as it is considered a safe haven against inflation and uncertainty.
The lesson here is that fixed income supports the overall portfolio when equity markets are volatile and undergoing correction. If gold does well, it can negate some of the equity falls. Hence, appropriate asset allocation is important.
3. Rebalance your investment portfolio during market volatility
For the equity portion of their investment portfolio, investors can follow the core and satellite portfolio approach. The core portfolio can form 70-80% of the equity investment portfolio, comprising diversified equity mutual funds. The satellite portfolio can form the remaining 20-30% of the investment portfolio, comprising sectoral and thematic equity mutual funds.
When markets are volatile, the investor can shuffle the satellite portfolio and leave the core portfolio unchanged. For example, during the current high inflation scenario, commodities have done well, so allocation to metal/commodity funds may be increased. During the Covid-19 pandemic, there was high demand for digital services, so higher allocation to IT funds would have yielded good returns.
The lesson here is that during volatile times, an investor may make changes in the satellite portfolio by increasing allocation to sectors that are expected to do well and leaving the core portfolio unchanged.
4. Don’t try to time the market.
When markets get volatile, some investors try to time the market. They pause their systematic investment plans (SIPs) or even redeem them. They think they will start reinvesting when markets have stabilised or a new uptrend. However, trying to time the market can cost you dearly.
In an attempt to time the market, if you miss out on only a few best days, your returns can get reduced to half or even lower.
Chart: Trying to time the market and missing the best days
Note: The 15-year investment period is up to 30 November 2020.
The above chart shows how if an investor stayed invested for a 15-year tenure, despite all the market volatility, a Rs. 1 lakh investment in the Sensex 30 Index would have multiplied five times to Rs.5.02 lakhs however if an investor tried to time the market during volatile periods and missed out on the best days. In that case, this is what would have happened:
- Missing the 5 best days would have reduced the returns by 37% to Rs. 3.15 lakhs
- Missing the 20 best days would have reduced the returns by a whopping 74% to just Rs. 1.34 lakhs
The lesson here is the investor should not try to time the market during volatile times. The investor should stay invested; the volatility and correction phase will pass, and the market will eventually make new highs.
Market volatility and corrections are minor bumps in the long-term investment journey.
When you invest in equity mutual funds for your long-term financial goals, such as building a fund for a child's higher education or your retirement, there will be phases of market volatility and corrections. As a long-term investor, you should embrace volatility and make it your friend. You should follow appropriate asset allocation during market volatility and rebalance your portfolio (satellite portfolio part). You should not try to time the market by pausing or redeeming your investments, thinking you will restart them later. You should stay invested. In the long run, the market will overcome the short-term volatility and correction and eventually make new highs.
Investing in mutual funds with the Glide Invest App
In this blog, we have understood what market volatility is and how to manage your investments in times of market volatility. You can partner with the Glide Invest App for your financial planning journey to get recommendations for the appropriate mutual fund schemes based on your risk profile. You will get advice on planning and systematically investing towards your financial goals.
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