Reap the gains of a downtrend

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Reap the gains of a downtrend

Saturday, 12 December 2020 | Prem Prakash

Investors who want to build a good portfolio over the long term, should use opportunities like the present one, to invest in the financial markets

The Coronavirus pandemic has stalled international trade and created heightened volatility in the financial markets. It has impacted many businesses and the finances of individuals. People are revisiting their financial plans in order to sustain their savings for as long as possible. Those who have been playing the financial markets for long, know that such downturns are a great opportunity to rebalance their investment portfolios. Many research houses have come up with data points on how the recovery of the markets has been, post a catastrophic event that has sent the markets into a tailspin. In most of the cases it has been found that after a downward trend, the markets get back to their original level within two years. Hence, investors who are not looking to time the market and want to build a good portfolio over the long term, should use opportunities like the present one, to invest in the financial markets and reap benefits.

Many investment firms have gone the extra mile to support their stakeholders during these uncertain times. Webinars were conducted on financial health that focussed on effective fiscal management during the lockdown and the turbulent phase that the economy is going through. These firms facilitated a goal-based approach, risk profile analysis and rebalancing of strategies which helped the millennials with their future investment plans by tailoring them to their specific requirements.

A plunge in March, followed by a gradual recovery, has created a volatile situation in the financial markets that has lured many people to dabble in the stock market. At the same time, many existing investors who barely traded, have now started doing so. Retail participation saw a record high, while many inactive clients re-entered  the market and there was a sharp rise in the number of new clients in the industry. Despite volatility, many investors were able to generate good returns with the help of financial advisors who adopted various strategies, the most popular being buying at the dip and multi-asset class investing. Buying at the dip is a market timing strategy and more often than not, investors do not get the timing right. The potential problem with this approach is that you may end up catching a falling knife. Investors should choose companies that fundamentally have good businesses and sufficient cash flows to withstand a potential downturn. It is beneficial to create a well-diversified portfolio by investing in multiple asset classes that give a balanced risk exposure over various macroeconomic conditions.

For investors focussed on companies with sustainable competitive advantages and long-term secular trends, it’s important to prioritise a far-horizon investment outlook over knee-jerk modifications. While investors who focus on short-term stock market momentum may have rebalanced portfolios during the period, staying the course can potentially be beneficial. Sticking to a long-term investing strategy can serve as a guiding principle through swings on a monthly or quarterly basis. Research companies guide investors with rebalancing techniques as they tend to improve risk-adjusted returns over time, as long as it doesn’t generate excessive tax and transaction costs by reducing portfolio sensitivity to the timing of volatile markets. It also gels with the markets’ natural tendency to revert to the mean. Many a time, people do not understand and focus on rebalancing, however, this is one of the most important steps to get a consistent return. Rebalancing the portfolio normalises it for one’s age, revised objectives, current market conditions and so on. For instance, if one has invested `1 crore with 70 per cent in equity and 30 per cent in debt and after a sudden fall in the market, the portfolio composition changes to 60 per cent equity and 40 per cent  debt, it is the right time to shift some amount from debt to equity, which will bring the portfolio composition back to 70:30. This way, one will always benefit from any market condition and the portfolio, too, will be aligned with long-term objectives.

Investors have been encouraged by improvements in manufacturing and metals, better-than-expected second-quarter earnings, hopes of a potential vaccine and extremely low interest rates. Mostly, investors seem to be looking past the pandemic to the recovery expected in 2021. Due to the expectations of an additional US Government stimulus, the ongoing global recovery and an expected rebound in cyclical sectors, the world is likely to see a V-shaped economic rebound. If the RBI continues the low interest rate regime for the next one year or so, the yields on Fixed Deposits and other fixed income instruments are going to be very low. Plus, if we include the impact of income tax the returns from these instruments are not going to beat inflation and one is going to get a negative real rate of return. All these put together, provide a great opportunity for investors to participate in the markets and build a portfolio with a long-term objective.

As the overall structure of the market remains positive, participation by retail investors will increase consistently. With economic activity recovering fast, more upgrades in earnings cannot be ruled out. Strong global markets in the future can keep the liquidity abundant in the system, thus providing support to the overall market.

(The writer is CEO, CapitalVia Global Research Limited.)

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