Let’s begin with a disclaimer: this is not intended to be a foretelling of an impending market crash! In fact, the rationale behind avoiding equity investments simply because markets have made a new high is faulty in itself, and there are numerous instances from the history of the stock markets which second this. Take, for instance, investors who relievedly exited their equity investments when the NIFTY decisively broke past its 2008 high of 6,274 in February 2014 (having already done so in 2010, only to capitulate again) – they would have been sitting on the fences throughout a 3 year, 3000 points-plus rally. Ditto for investors who invested at the peak of the dot-com bubble of 2000, only to hurriedly exit when the markets made a new high in 2004 – the spectacular bull run of 2004 to 2008 is well chronicled and needs no repetition.
Of course, the hope that we still have a large chunk of the bull run left, floats. That said, it’s also an undeniable fact that investments made near market tops perform significantly worse (at least in 5-10-year time horizons, a good enough one for most). For example, an investor who committed money at the peak of the bull market in 2000 would be sitting on an annualized CAGR of just 10.12% over a 17-year timeframe, with a vast amount of that investing period actually spent nursing lower, single digit returns. An investor who, luckily, invested just a year and a half later, would be sitting on a spectacular 17% plus CAGR – enough to grow his money ten-fold in this period!
Fortunately, there are three steps you could take to optimize your investing experience near market highs.
Use STP’s to your benefit
STP’s or “Systematic Transfer Plans” can be very useful tools to deploy moneys after markets have gone up sharply. In an STP mechanism, an investor basically starts off with a liquid fund or a load-free ultra-short-term debt fund, and systematically staggers moneys into equity funds over a predefined timeframe. There’s been some recent talk that STP’s are balderdash, and it’s basically much better to just deploy equity moneys all at once regardless of market levels – but this isn’t necessarily true. Aspiring equity investors with a long-term outlook would be making a smart move by staggering their investments over a 12-18-month period, just to be prudent.
Reset your return expectations
It’s a fact that high markets also tend to draw retail investors into them like fireflies. Consider this: net equity fund inflows in the last FY exceeded Rs. 1 trillion or Rs. 1 lakh crore. When markets were subdued in 2011-12 and rife with opportunity, investors committed less than 700 crores in net inflows to equity oriented funds!
Investors bravely riding into high markets need to necessarily temper their long-term return expectations, and plan for their future goals accordingly. Take, for instance, the 5-year returns from the bellwether Franklin India Bluechip Fund, which currently reads an impressive 15.7%. Go back 5 years and you’ll discover that markets had fallen quite sharply at that time. From the period Feb-08 to Feb-13, the same fund delivered a sub-fixed income annualized return of 6.8%!
Although the above stated is an extreme example of sorts, it does go on to demonstrate that investors who are committing moneys into equities despite valuation indicators pointing to a potentially over-heated scenario, need to factor in lower returns. For instance, an investor with a 5-7-year time horizon at current levels should ideally have a returns target that’s no more than 12% CAGR.Additionally, investors writing cheques at this time should ideally stay ready to extend their time horizon by 2-3 years at short notice, as no man can successfully predict the vicissitudes of the equity markets.
Avoid both ends of the spectrum
When investing into high markets, investors would do well to avoid both the lure of sectoral funds that have shot up recently, and the passive comfort of index funds that aim to do no more than pliantly follow broad indices such as the NIFTY. In medium term timeframes following a market run up, both these categories tend to underperform diversified, multi-cap funds that follow value based strategies rather than momentum based ones. Rather, stick to value funds or flexi-cap funds that can deftly rotate their portfolios across market caps and sectors.
End Note
Markets will always shuttle back and forth, and perennially sitting on the fences with the hope of finding an optimal “entry point” isn’t the answer. Neither is going in hook, line and sinker. Investors are advised to strictly adhere to the equity exposures mandated by their broad asset allocation decisions. Within that, they should consider 12-18 month STP’s into diversified, flexi cap or multi cap funds instead of one-shot investments into index funds or sectoral funds.