Last Updated on September 1, 2020
We live in a unique time. Given the explosive growth in mutual fund AUM, most capital market participants are relatively new, relatively young with relatively small equity expoure. One of the most expensive investment mistakes for young earners would be to “wait for the right time to invest” or “wait for the market to fall”. Worrying about market volatility betrays the lack of a plan.
In every discussion on portfolio rebalancing, someone says, “why can’t I rebalance the portfolio by adjusting the investment amounts without withdrawing from equity or debt?”. See this statement often enough then the problem with young earners become clear.
Those who have just begun investing in equity focus on the amount they invest each month and not on the amount already invested (which is comparable to the annual investment).
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Hence the desire to rebalance without redeeming, hence the fear of a market fall after an investment is made, hence the regret if the market moves up on the day of the SIP or falls the day after.
Investors with significant assets in equity would have typically got there over at least one decade of investing and such investors tend not to ask questions like, “shall I invest now or wait until it falls more”
Why? The ” risk of loss” associated with the amount facing the full heat of the market is much more than the money to be invested next. “Time in the market” is a great teacher. It forces you to look at the big picture, focus on protecting the amount invested.
Waiting for “right time” to invest is like waiting for an opportune time to slip between the raindrops without getting wet. It is a waste of time. As I write this, the Sensex is up 660 points. The stock market is quite literally (technically that is) random with too many variables at work. This randomness can be quantified but not predicted.
What are the practical options to manage stock market volatility?
Market volatility management is a crucial part of investing. Assuming market volatility does not matter if you are investing for the long term, as many advisors suggest is ignorance.
Most advisors assuming 50-70% of equity held for most of a 20-year duration (for example) is enough to achieve a goal. A market crash at any point in time, 1st year or 17th year can destroy a corpus.
The boring advice of “invest according to a goal, according to an asset allocation” is good only to get started. Risk in an investment portfolio requires continuous (one a year at least) management.
We invest money only for using it later. So the goal is not merely high returns but an adequate corpus. The two methods of continuous risk management are:
- Tactical asset allocation using one or more market indicators. This market timing tool does just that: Find out if the stock market is expensive or cheap in multiple ways. Here the amount of equity allocation would vary depending on market condition. The goal here is to lower portfolio risk not higher than market returns.
- Goal-based asset allocation: Here the equity allocation varies as per the needs of the goal (this will vary pre- and post-retirement). These are discussed with necessary backtest proofs in the lectures on goal-based portfolio management
The idea behind both methods is to continue investing no matter what. That is “investing with a system in place”. This is not the same as “systematic investing” as fund houses would have you believe.
Market levels are not relevant to your next investment. Investing “extra” on “dips” is fine as long we do not attach any superiority to it as shown before: Want to time the market? Then do it right! Buying on dips is not timing! and Buying on market dips: How effective is it?
The only way to sleep in peace is the thought that risk associated with our money in the market is reasonably managed. Worrying about when to invest next and what would happen to that investment is of little use.
It is perfectly natural to react to market movements. The question is, are we doing that with a plan or not. The more time wasted without a plan and waiting for the perfect time to invest, more time flows under the bridge. Time, unlike money, is more precious as it cannot be recovered.
Instead of wasting time dreaming about a market crash and recovery (after the investment is done), investors, especially young earners should focus on investing regularly with a goal. Waiting for the market to do what we want it to is worse than chasing our own tails.
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