The current bull market that started in late March 2020, has more than doubled the wealth of equity investors. The Sensex has recently surpassed a new high of 61,000 while Nifty 50 is trading near 18,500. Notably, the broader market has outperformed the large-cap index. Mutual fund investors who kept their investment intact in the last 18 months have earned high returns.

[Read: Sensex Mounts 60,000 points! How to Invest in Equity Mutual Funds Now?]

What is fuelling the market rally?

It usually the institutional investor (domestic and foreign) that drive the market, this time there has been lot of active participation from retail investors. Many new retail investors joined the equity market March 2020 onwards buoyed by hopes of recovery. Today the number of Demat accounts and mutual fund folio (particularly through the SIP route) are at record peaks.

Apart from retail investors, HNI investors and domestic institutional investors led by mutual funds, pension funds, insurance companies, as well as FPIs are on an average net buyers.

The improving economic conditions has also attracted investors to equity market, thus taking it to all-time high. Most economic activities are now at pre-pandemic levels supported by growth measures and incentives from the government. Moreover, there is a sharp decline in new daily COVID-19 cases whereas the pace of vaccination has picked up.

Another reason for high investor sentiment is that corporate results till now have been strong despite the severe impact of the COVID-19 pandemic. Nifty EPS grew around 14% y-o-y in FY 2021 led by low base, cost control measures, and pickup in demand.

The Banking & Finance sector that accounts for a major portion of the earnings, has abated the impact of any potential corporate loan stress supported by RBI’s moratorium and liquidity measures during the pandemic phase. It is expected the earnings for FY 22 and FY23 will be significantly higher.

Furthermore, lack of opportunities in other asset classes such as fixed income instruments and bank deposits due to the low interest rate environment has made equities relatively attractive.

Some experts believe that Sensex could reach 200,000 by the end of this decade due to healthy improvement in corporate profits and economic growth.

It is true that there is a scope of healthy return in the long term but it is important to remember that market growth will never be linear.

In the near term the following remain the key risk to market:

1) High Valuations

With the equity market scaling new highs, the valuations across market caps look stretched. Therefore, at some point the market is likely to correct. It is important to note that all previous bull markets were followed by major corrections in the range of 5% to 20% or more. Mid-cap Funds and Small-cap Funds could be worst hit, if the market corrects from hereon.

2) Inflation

Rising commodity prices could dent India Inc’s profit. The impact could be higher on companies/sectors that do not have much power to pass on the rise in cost to the end customers. In such case only those companies with robust top-line growth and will be well placed to register higher earnings growth.

3) Reversal of accommodative stance of central banks

US Fed recently indicated tapering of stimulus. The RBI too has taken a step towards normalisation of liquidity measures by announcing the end of bond buying programme (GSAP). If you recall, it was the excess liquidity in the market that lifted financial markets and enabled the economy to recover. When the liquidity from the market starts to dry up there is a possibility that market will slip back.

What should be your mutual fund investment strategy?

Given the risks in play it would be better to set realistic expectation from your equity investment and invest with a long term view.

In the current market condition what you need is a mutual fund investment strategy that will help you to shut the market noise and will also help to focus on your goal. The ‘Core & Satellite’ is one such investment approach that will help you become a successful investor. It is a time-tested investment strategy followed by some of the most successful equity investors in the world.

The ‘Core & Satellite’ strategy would ensure risks and returns are well balanced out. The term ‘Core’ applies to the more stable, long-term holdings of the portfolio, while the term ‘Satellite’ applies to the strategic portion that would help push up the overall returns of the portfolio, across market conditions.

The ‘Core’ holding should comprise around 65-70% of your equity mutual fund portfolio and consist of a Large-cap FundFlexi-cap Fund, and Value Fund/Contra Fund.

The ‘Satellite’ holdings of the portfolio can be around 30-35% comprising of a Mid-cap Fund and an Aggressive Hybrid Fund.

By wisely selecting among these the best mutual fund schemes, structuring your portfolio, and then timely reviewing the Core and Satellite portions and the holdings therein, you would be able to strategically boost your portfolio returns hand-in-hand with the required stability.

Here are few ground rules to build a mutual fund portfolio following the Core & Satellite approach:

  1. Consider funds that have a strong track record of at least 5 years and have been amongst the top performers in their respective categories.
  2. The schemes should be diversified across investment styles and fund management.
  3. Ensure that each selected scheme abides with its stated objectives, indicated asset allocation, and investment style.
  4. You should not only invest across investment styles (such as growth and value), but also across fund houses.
  5. The mutual fund schemes should be managed by experienced and competent fund managers and belong to fund houses that have well-defined investment systems and processes in place.
  6. Not more than two schemes managed by the same fund manager should be included in the portfolio.
  7. Not more than two schemes from the same fund house shall be included in the portfolio.
  8. Each scheme that is to be included in the portfolio should have seen an outperformance over three market cycles at least.
  9. You should restrict the count of mutual fund schemes in your portfolio to eight.

When the ‘Core & Satellite Investment Strategy is sensibly followed, here are six key benefits it adduces:

  1. Facilitates optimal diversification among equity mutual fund schemes
  2. Reduces the need to frequently churn your entire portfolio
  3. Reduces the risk to your portfolio
  4. Enables you to benefit from a variety of investment styles and strategies
  5. Creates wealth cushioning the downside
  6. Helps you potentially outperform the market

Considering the present market conditions, I suggest taking the Systematic Investment Plan (SIP) route while you build the portfolio of the best equity-oriented mutual fund schemes following the ‘Core and Satellite’ approach. If the market correct from the current level, investing via SIP will help you to accumulate more units. And when the market bounces back you will be rewarded with higher gains.

This article first appeared on PersonalFN here

Leave a Reply

Your email address will not be published. Required fields are marked *