Markets have bounced back sharply since its March 2020 lows. The S&P BSE Sensex has crossed 46,000 and is trading at an all-time high.
Notably, the markets began the year 2020 on a positive note, but it was soon reeling under pressure due to the COVID-19 pandemic. We saw one of the worse market phases in March, where it crashed nearly 40% within a couple of months.
The series of lockdowns, drop in business and economic activities, corporates facing a cash crunch, pay cuts, job losses, etc. had resulted in one of the biggest economic disasters. The economy nearly came to a standstill.
With the extension of lockdowns, it was likely that there will be more stress for the economy, while conditions may not normalize any time soon. And yes, we are not out of the woods yet. Though there has been positive development on the vaccine front, we are far from getting the larger population vaccinated.
Overcoming the pandemic completely and getting back to normal life will take time. Wearing masks, sanitization, social distancing, limited office strength, work from home, etc. is the new normal to carry on with daily routine.
However, what has prevailed in the equity markets in the last 3 to 4 months has definitely taken everyone by surprise. Many investors who sold off their investments and resisted from investing when Sensex was below 30,000 are now ready to get in after this dream rally.
The markets’ swift recovery to touch an all-time high has been ahead of the fundamentals. Its sustainability remains a question, and a correction cannot be ruled out. Hence, you need to be cautious.
I suggest that investors not to go gung-ho and put all their money in equities during market highs. Instead, follow the basic rule of buying at lows and selling at highs. Stick to your asset allocation and review your investments thoroughly. A lack of timely action on your part may have an adverse impact on your investment portfolio.
The impact of Covid-19 Pandemic on equity markets:
The Covid-19 crisis caused panic among investors across the globe and resulted in huge sell-off in almost all developed and emerging markets, which had a severe impact on investment portfolios in the Q1 and Q2 of CY 2020.
Table 1: The Fall and Rise in Equity Markets
|Market Cap||Index||Jan 2020
|Large Cap||S&P BSE SENSEX||41,952.6||25,981.2||-38.1||46,103.5||77.4|
|S&P BSE 100||12,455.8||7,683.1||-38.3||13,650.0||77.7|
|Mid Cap||Nifty Midcap 100||18,367.5||10,990.8||-40.2||20,563.5||87.1|
|S&P BSE Mid-Cap||15,904.7||9,711.4||-38.9||17,596.2||81.2|
|Small Cap||Nifty Smallcap 100||6,346.7||3,339.7||-47.4||6,817.3||104.1|
|S&P BSE Small-Cap||14,850.4||8,872.8||-40.3||17,577.5||98.1|
Source: ACE MF, PersonalFN Research; December 2020 high value as on 9th December 2020
The equity markets corrected nearly 40% within two months’ time to a multi-year low, in March 2020. The debt markets too were facing the risk of default by corporates that could have resulted in more rating downgrades across the spectrum. However, Gold survived the pandemic and evolved as a true winner appreciating well over 50% in less than a year’s time.
But as usual, Mr Market has the habit of surprising investors. The markets have shown a significant bounce back since March 2020 lows and are touching all-time highs these days. While the large cap indices have appreciated around 77%, the mid and small caps have rallied in a range of 80% to 105%.
The swift recovery seen in the equity markets despite COVID-19 pandemic and economic growth indicators being deep in red, seems to be ahead of fundamentals.
Like other investors, you too may be in a dilemma about what should be your next course of action. Should you wait for the correction or participate in the rally if there is more upside left.
“Be Fearful When Others Are Greedy and Greedy When Others Are Fearful” ~ Warren Buffett
These words of ace investor Mr Warren Buffett mean you should invest when others are selling in panic and sell when others are investing greedily.
In such conditions, it can be termed wise to book profits in the asset class that has rallied significantly and shift it to safer avenues so you can tap future opportunities in other asset class.
Having Right Asset Allocation Is Important
Investors have different tendencies towards risk with respect to their investments in equity markets. Your risk appetite and risk tolerance level would determine your investment behavior. Ideally, risk appetite has more to do with the age group you are in and the nearness to your financial goal.
PersonalFN considers asset allocation as an important element in one’s investment portfolio. It is crucial in the process of achieving ones financial goals like retirement.
Ideally, you should spread your portfolio across asset classes having low or negative co-relation. This could help you safeguard your investments from any bad phase in a particular asset class.
By allocating your investments across various asset classes (viz. equity, debt and gold), you can minimize concentration risk in any particular asset class and possibly increase gains in the long run. Asset allocation not only allows you to take advantage of crisis, but also to benefit from extraordinary opportunities offered by the markets.
By following proper asset allocation strategy, you can take advantage of timely shoveling away your money from a risky and uncertain equity bucket to a safer fixed income bucket (via liquid funds taking zero credit risk) – after having made substantial profits. And whenever the markets correct significantly, you can jump back to increase your exposure in high growth asset class like equities.
Asset allocation is an important ingredient that not only helps minimize risk in your portfolio, but to optimize your returns as well.
Should you consider rebalancing your portfolio at this point?
All of us wish to earn high returns on our investments.
You as an investor should re-look at the asset allocation in your portfolio. If your asset allocation has gone awry, there is a high chance you may not be on the right track.
After the swift rally in equity markets, it is possible that the equity allocation in your portfolio has drifted significantly away from the initial allocation due to a sharp appreciation in its value compared to other classes. There is a possibility that your unbalanced portfolio may now get skewed towards equities, thus increasing the concentration risk in your portfolio. These components if not rebalanced on time could expose your portfolio to a greater risk and might erode your portfolio value if equities start correcting.
If the equity allocation has risen significantly in your portfolio, then you should consider booking profits and shift it to other asset class in order to rebalance your asset allocation to the defined standard allocation.
While you should aim to stick to your standard allocation, as a thumb rule, you should consider rebalancing whenever any of the asset class in the portfolio witnesses a deviation of say +/- 5% from its standard allocation.
If you fail to rebalance your portfolio at regular intervals, all your efforts in creating a prudent investment portfolio are likely to be in vain. Ideally, you should make it a point to review your portfolio at least once in a year or whenever, there is sharp rally or crash in any of the asset classes.
Do not forget, with sharp rise in equities, this could be a good time to review your asset allocation and your risk tolerance level. Regular monitoring and timely rebalancing your portfolio can help you book profits on your high-flying asset class, and simultaneously buy other asset classes available at deep discount.
Words of caution for equity fund investors:
In a market rally like these, you may see many poor-quality funds making it to the top of the performance chart.
You should stay away from poor-quality funds even if their returns in an upside market might look lucrative. They may disappoint you once the markets take a U-Turn.
Instead consider fundamentally sound funds that are driven by stringent systems and processes and do not put investor’s money at unnecessary risk.
You should preferably look out for funds that have done well across market cycles and carry a strong track record of rewarding investors in the long run.
This article first appeared on PersonalFN here