Last Updated on May 17, 2022 at 3:15 pm
A tactical entry and exit strategy for small cap mutual funds is discussed in this article. The impact of the strategy on the worst-performing small cap fund is promising enough to emerge as a better option than a buy and hope for the best SIP in a small cap mutual fund.
Regular readers may be aware that freefincal has always opposed the idea of investing in small cap mutual funds. Due to their highly volatile nature, returns can swing from spectacular to disastrous in quick time and is most impacted by sideways market movements.
Retail investors who naively believe in “the SIP” would simply leave the fate of their investment to luck if they start small cap SIPs as recently shown: Why a SIP in Small Cap Mutual Funds is a waste of money and time. An alternative tactical buy/sell strategy for small cap mutual funds was earlier shown to be fruitful: Profit Booking from Small Cap Mutual Funds: Does it work?
Join over 32,000 readers and get free money management solutions delivered to your inbox! Subscribe to get posts via email! 🔥Enjoy massive discounts on our robo-advisory tool & courses! 🔥
We do not have much of market history to rigorously test the efficacy of such a method, but based on past backtests, it should reasonable to assume the following. The tactical approach will not always lead to more returns, it would typically lower risk and could enable the disciplined investor to sleep better.
In the current article, we shall apply the method successfully applied to equity (Sensex), gold and gilts to a small cap mutual fund. In particular the worst-performing small cap mutual fund (wrt return) over the last 10,15Y. The fund has either mirrored its current benchmark, S&P BSE 250 SmallCap TRI or underperformed it.
- Equity backtest: This “buy high, sell low” market timing strategy surprisingly works!
- Gold backtest: Is this a good time to buy gold? A tactical buying strategy for gold
- Gilt Backtest: Can we get better returns by timing entry & exit from gilt mutual funds?
- Related read: When should I rebalance my portfolio?
The use of the “worst fund” is only to satisfy the author’s curiosity. A small cap index used in the previous backtest. It is quite possible that a SIP in an ‘above average’ fund could perform better. Nonetheless, the core idea of tactical entry and exit remains unchanged.
Method 1: Using double moving averages
Shown below is the NAV (blue), the six-month moving average (green), the twelve-month moving average(red) and the dotted line which is equal to “1” when the green line is above the red line (6MMA > 12MMA) and “0” if 6MMA < 12MMA.
- Systematic strategy: Normal SIP in a small cap fund (HSBC in this study)
- Tactical strategy with double moving averages: If 6MMA > 12MMA, push all money into the small cap fund. If 6MMA < 12 MMA, exit the small cap fund and buy either cash or Sensex or gilts (three different options).
- You can count the no of times the dotted lined changed value = 11, this is reasonable for a 15-year period.
We shall look at a single 15-year period. The returns are shown in the graph and do not include taxes and exit load. There is not enough history to roll this over. Important: the tactical strategy will not beat the systematic strategy every time in terms of return. The key idea behind timed exit and entry is risk reduction. If this does not appeal to you, please do not try this.
Tactical asset allocation (6,12 MMA) with small cap MF and cash
Tactical asset allocation (6,12 MMA) with small cap MF and gilts
Tactical asset allocation (6,12 MMA) with small cap MF and Sensex
Method 2: Using a single long-term moving average
A second method is to use a single moving average: 10 months (= 200-day moving average) or 12 months or longer can be used. I have used an 18 moth moving average here is to reduce frequent buy and sell transactions (aka whipsaw by traders)
Here again, the no of transactions is a 15-year period is a reasonable eleven.
Tactical asset allocation (18 MMA) with small cap MF and cash
Tactical asset allocation (18 MMA) with small cap MF and gilts
Tactical asset allocation (18 MMA) with small cap MF and Sensex
For this particular 15-year period, the 18MMA has done better. That does not mean it would always will. The central takeaways from this study are: (1) A simple SIP in a small cap fund is leaving the fate of your money to luck; (2) A tactical asset allocation strategy is mandatory for small cap funds to reduce risk; (3) Maturity and discipline to carry out the strategy is key (like all other things in life).
🔥Enjoy massive discounts on our courses, robo-advisory tool and exclusive investor circle! 🔥& join our community of 5000+ users!
Use our Robo-advisory Tool for a start-to-finish financial plan! ⇐ More than 1,000 investors and advisors use this!
New Tool! => Track your mutual funds and stock investments with this Google Sheet!
- Do you have a comment about the above article? Reach out to us on Twitter: @freefincal or @pattufreefincal
- Have a question? Subscribe to our newsletter with the form below.
- Hit 'reply' to any email from us! We do not offer personalized investment advice. We can write a detailed article without mentioning your name if you have a generic question.
Join over 32,000 readers and get free money management solutions delivered to your inbox! Subscribe to get posts via email!
Explore the site! Search among our 2000+ articles for information and insight!
About The Author
Dr. M. Pattabiraman(PhD) is the founder, managing editor and primary author of freefincal. He is an associate professor at the Indian Institute of Technology, Madras. He has over ten years of experience publishing news analysis, research and financial product development. Connect with him via Twitter, Linkedin, or YouTube. Pattabiraman has co-authored three print books: (1) You can be rich too with goal-based investing (CNBC TV18) for DIY investors. (2) Gamechanger for young earners. (3) Chinchu Gets a Superpower! for kids. He has also written seven other free e-books on various money management topics. He is a patron and co-founder of “Fee-only India,” an organisation promoting unbiased, commission-free investment advice.Our flagship course! Learn to manage your portfolio like a pro to achieve your goals regardless of market conditions! ⇐ More than 3,000 investors and advisors are part of our exclusive community! Get clarity on how to plan for your goals and achieve the necessary corpus no matter what the market condition is!! Watch the first lecture for free! One-time payment! No recurring fees! Life-long access to videos! Reduce fear, uncertainty and doubt while investing! Learn how to plan for your goals before and after retirement with confidence.
Our new course! Increase your income by getting people to pay for your skills! ⇐ More than 700 salaried employees, entrepreneurs and financial advisors are part of our exclusive community! Learn how to get people to pay for your skills! Whether you are a professional or small business owner who wants more clients via online visibility or a salaried person wanting a side income or passive income, we will show you how to achieve this by showcasing your skills and building a community that trusts you and pays you! (watch 1st lecture for free). One-time payment! No recurring fees! Life-long access to videos!
Our new book for kids: “Chinchu gets a superpower!” is now available!
Must-read book even for adults! This is something that every parent should teach their kids right from their young age. The importance of money management and decision making based on their wants and needs. Very nicely written in simple terms. - Arun.Buy the book: Chinchu gets a superpower for your child!
How to profit from content writing: Our new ebook is for those interested in getting side income via content writing. It is available at a 50% discount for Rs. 500 only!
Want to check if the market is overvalued or undervalued? Use our market valuation tool (it will work with any index!), or get the Tactical Buy/Sell timing tool!
We publish monthly mutual fund screeners and momentum, low-volatility stock screeners.
About freefincal & it's content policy. Freefincal is a News Media Organization dedicated to providing original analysis, reports, reviews and insights on mutual funds, stocks, investing, retirement and personal finance developments. We do so without conflict of interest and bias. Follow us on Google News. Freefincal serves more than three million readers a year (5 million page views) with articles based only on factual information and detailed analysis by its authors. All statements made will be verified with credible and knowledgeable sources before publication. Freefincal does not publish paid articles, promotions, PR, satire or opinions without data. All opinions will be inferences backed by verifiable, reproducible evidence/data. Contact information: letters {at} freefincal {dot} com (sponsored posts or paid collaborations will not be entertained)
Connect with us on social media
- Twitter @freefincal
- Subscribe to our YouTube Videos
- Posts feed via Feedburner.
Our publications
You Can Be Rich Too with Goal-Based Investing
Published by CNBC TV18, this book is meant to help you ask the right questions and seek the correct answers, and since it comes with nine online calculators, you can also create custom solutions for your lifestyle! Get it now.Gamechanger: Forget Startups, Join Corporate & Still Live the Rich Life You Want
This book is meant for young earners to get their basics right from day one! It will also help you travel to exotic places at a low cost! Get it or gift it to a young earner.Your Ultimate Guide to Travel
This is an in-depth dive analysis into vacation planning, finding cheap flights, budget accommodation, what to do when travelling, and how travelling slowly is better financially and psychologically, with links to the web pages and hand-holding at every step. Get the pdf for Rs 300 (instant download)