Why Are Stock Markets Falling and How to Buy Equity Mutual Funds Amidst this Selloff

June 15, 2022 Mutual Fund

Volatility in the stock markets has amplified in the recent past. For investors –particularly those who have never witnessed such vicissitudes –it’s been a nerve-wracking experience, akin to being on a rollercoaster full of up and downswings.

Various factors are driving market volatility…

• Spiralling CPI inflation in India (above the RBI’s comfort limit), and many parts of the world (The U.S. recorded 8.6% inflation, a 40-year high)

• Higher imported inflation and input costs for industries (and ultimate consumers) due to elevated commodity prices such as food, oil, energy, non-energy, metals, etc.

• Aggressive policy rate hikes by major central banks to tame inflation, and the possibility of more rate hikes in time to come

• Increase in benchmark yields, both in India and in the US. (In India, the 10-year benchmark yield crossed 7.50% — at the fastest pace since 2008 – and in the U.S., to 3.36%, a 14-year high)

• Weak rupee vis-a-vis the greenback (crossing over Rs 78 against the U.S. dollar)

• Relentless net selling by the Foreign Portfolio Investors to the tune of nearly Rs 2 trillion since October 2021

• Ongoing Russia-Ukraine war and the Stockholm International Peace Research Institute (SIPRI) warning that the world is stumbling into a new era of risk as profound environmental and security crises converge and intensify

• COVID-19 continuing to spread the world, including India reporting a spike in infections of late

• The World Bank’s Global Economic Prospects report of June 7, 2022, foreseeing the 1970s type of stagflation

• And in general, economic uncertainty

So far, the bellwether index, i.e., the Nifty 50 is down by -14.6%, while the mid-cap and small-cap indices have fallen even more – by -17.3% and -21.6%, respectively (as of June 13, 2022).

No one can surely say when the clouds of gloom will clear and the Indian stock market will recover. It would be a bold call to declare the worst is already behind us.

Graph 1: India VIX

Data as of June 13, 2022
(Source: NSE)  

The India Volatility Index (India VIX), an indicator of market volatility, has been inching up since October 2021. It is a forward-looking indicator that highlights potential volatility in Nifty 50 over the next 30 days. A higher value indicates a higher expectation of volatility and vice-a-versa.

Looking at it broadly, it appears that the volatility in the Indian equity market (and global markets) will continue. But note that the VIX is nowhere close to the level we saw at the start of the COVID-19 pandemic. So, don’t get too worried.

Volatility is the very nature of the market; it is how we use it to our advantage, perceive the situation sensibly, and devise an efficient strategy that will decide our investment success.

In the words of Benjamin Graham, “Successful investing is about managing risk, not avoiding it”.

As a retail investor, it’s advisable to make use of the remarkable corrections or selloffs to buy on dips. Even Domestic Institutional Investors (DIIs), which include mutual funds, have been making the most of these market corrections and buying Indian equities. This potentially serves to be a meaningful strategy to invest in equities for the long term.

Historical evidence suggests that money invested in quality stocks/mutual funds during times of uncertainty has fetched attractive returns over the long term. And fortunately, at present, valuations are better placed considering decent corporate earnings of the last couple of years.

To take advantage of noticeable market corrections and valuations, you can take the diversified equity mutual fund route.

Doing so will help you diversify across market capitalisations and various themes/sectors with professional fund management.

This shall also free you from the hassle of tracking markets daily, selecting stocks for the portfolio, and monitoring their performance on a regular basis. The fund management team of the respective fund will take care of all these functions for you.

Besides, it will be possible for you to invest smaller amounts and potentially gain from investing in equity mutual funds.

All you require to do is carefully choose the equity mutual fund schemes for your portfolio and devise a sensible strategy.

Avoid investing in an ad hoc manner or simply copying the schemes your friend/relative/colleague/neighbour is investing in. Remember, investing is an individualistic exercise, where shortcuts may prove costly. Invest by recognising your risk profile, the broader investment objective, the financial goals you wish to address, and the time in hand to achieve those envisioned goals.

If you have a high-risk appetite, the broader objective is capital appreciation, and have an investment horizon of at least 3 to 5 years; invest in equity funds following the ‘Core & Satellite Approach.

The term ‘Core’ applies to the more stable, long-term holdings of the portfolio. The term ‘Satellite’ applies to the strategic portion that would help push up the overall returns of the portfolio across market conditions. This time-tested investment strategy is followed by some of the most successful equity investors, proving to be a wealth multiplier for them in the long run.

The ‘Core’ holdings should be 65%-70% of the portfolio and consist of equity funds such as Large-cap Fund, Flexi-cap Fund, and Value Fund/Contra Fund.

The ‘Satellite’ holdings, on the other hand, should make up 30%-35% and comprise of equity funds such as worthy Mid-cap Funds and an Aggressive Hybrid Fund. If your risk appetite is very high, maybe you could add a small-cap fund in the satellite portion.

When you construct an equity mutual fund portfolio based on the ‘Core & Satellite Approach’, you should ensure it does not contain more than 7 to 8 best equity mutual funds. There is no point in over-diversifying your equity mutual fund holdings.

It would be best to ensure that no more than two equity mutual fund schemes belonging to the same fund house are included in the portfolio.

Further, no more than two schemes in the portfolio should be managed by the same fund manager, all the schemes should have a strong track record of at least five years, they have outperformed over at least three market cycles, are among the top performers in their respective categories, and are abiding by the stated objectives, indicated asset allocation, and investment style.

Your objective as an investor should always be to try generating superior risk-adjusted returns.

If you are looking at investing in the best equity mutual fund schemes to multiply wealth over the long- term — anywhere between 5-7 years or more — download PersonalFN’s guide: The Active All-Season Mutual Fund Strategy for 2030. In this exclusive guide, PersonalFN highlights a remarkable strategy that has the potential to grow your wealth the smart way, with calculated risk, and help you accomplish your envisioned long-term financial goals.

By following an all-season mutual fund strategy, potentially, you may be able to:

✓ Keep emotions at bay

✓ Take advantage of the higher margin of safety and stability of large-caps

✓ Capitalise on the potential high growth opportunities of small and midcaps

✓ Reduce the need of churning the portfolio, especially the core portion

✓ Potentially earn higher returns over the long-term

✓ Mitigate downside risk

In a falling equity market, you may make lump sum investments. But prefer making staggered lump sum investments rather than deploying all your investible surplus at one go.

If you are choosing the Systematic Investment Plan (SIP) route, invest meaningful sums. This shall help you sail through volatile times with the inherent rupee-cost average feature of SIPs, and eventually when the stock markets move up, compound wealth better.

If you are already SIP-ping in some of the best equity mutual funds, make it a point to step-up SIPs amidst volatile equity market conditions. Doing so shall facilitate better rupee-cost averaging while you endeavour to compound wealth.

Do not commit the mistake of stopping or discontinuing SIPs in best equity funds, as it might put brakes on the process of compounding. The market corrections facilitate accumulating more units, and when they ascend, the value of your investments goes up. Click here to use PersonalFN’s SIP Calculator to compute the future value of your mutual fund SIPs.

If you are already holding some of the best equity mutual funds in the portfolio, and they aren’t performing, I suggest you comprehensively review your mutual fund portfolio. 

Lastly, keep in mind that while the Indian equity market may continue to remain volatile or correct in the interim, India continues to remain an attractive investment destination.

India is expected to remain one of the fastest-growing major economies in the world, and there is no need to panic at this juncture. Hence, buying the dips sensibly while you endeavour to build wealth and accomplish your envisioned financial goals.

Happy Investing!

This article first appeared on PersonalFN here