Equities at record high – time to enter or time to exit?
Indian equities have been the toast of 2017. Bellwethers Nifty 50 and the S&P BSE SENSEX have scaled new highs. In the six months ended June, they gained 16% each as foreign and domestic investors channeled funds into the domestic equity market ahead of the launch of the Goods and Services Tax (GST). Quite perceptibly, equity mutual fund investors have had reason to cheer too. CRISIL AMFI Large Cap Fund Performance Index rose nearly 18% during this period. In this backdrop, investors find themselves at a crossroads – whether to stay invested / enter now to reap benefits or exit to prevent losses / avoid equities. The key question in their mind is will the market rise further or will it witness a correction in the near term?
Lessons from the past
In the past decade, investors have grappled with the same question as the Nifty 50 tested new highs. Understanding investor behaviour during times of uncertainty provides invaluable inputs for future actions. Let’s analyse equity fund flows (a proxy for retail investors) since the beginning of 2008 until the end of 2010. During this period, the Nifty 50 peaked at 6288 on January 8, 2008, and dropped to 2524 on October 27, 2008. Thereafter the market rose to a high of 6312 on November 5, 2010. If retail investors could time the market well, majority of inflows would occur at the start of the rise and outflows when the market peaks. But fund flow trends indicate that this is not the case. Between January 2008 and October 2008 (when the Nifty 50 declined), cumulative fund inflows totaled Rs 31,282 crore. Between November 2008 and October 2010, which saw the Nifty 50 rise sharply, cumulative net outflows were Rs 17,583 crore. This suggests that the timing of investor entry (inflows) and exit (outflows) lags the broader market’s lows and highs, indicating inability to time the market accurately.
To reiterate, history proves that retail investors lack the skill to time the market. The simplest way to invest in stocks at this juncture is to use the systematic investment plan (SIP) feature of mutual funds.
SIPs – build long-term wealth by staying invested during the downside and upside
Let’s take a hypothetical example: an investor invests a lump sum of Rs 1 lakh at the peak of the bull run on December 31, 2007 in a bid to capture higher gains. The investor stays invested for at least three years. On a point-to-point basis, the Nifty 50 delivered annualised returns of -0.02% on December 31, 2010 after recovering the losses suffered during the global financial crisis. In this case, the investor spent Rs 1 lakh and ended with Rs 94,119 at the end of three years (a loss of Rs 5,881). Of course, the investor has no way to predict the value of Nifty 50 at the end of the three-year holding period. So, is the best course of action to avoid equities when stocks are at a high to prevent the loss? No. Let’s see how a SIP would have fared.
Over the same three-year period, a monthly SIP in Nifty 50 of even a small amount such as Rs 2,778 per month (Rs 1 lakh / 36), beginning in January 2008, would have given an ending corpus of Rs 1,39,927 (a gain of Rs 39,927 over the total invested amount) for a return of around 23%.
SIP has potential to generate higher returns as the method relies more on the time spent in the market (read: discipline) rather than market timing (read: skill). In this case, the investor purchased fewer units when the market rallied between 2009 and 2010, and more units when stocks plunged in 2008. As a result of investing during market highs and lows, the cost of investment averages out. The longer the time frame, the larger the benefits of rupee cost averaging. Thus, by investing a small sum of money regularly, the equity entry-exit dilemma is rendered redundant.
Other advantages of SIPs:
Besides enforcing discipline, reducing the average cost of investment and making market timing immaterial, SIPs offer the following advantages:
No one has a crystal ball that reveals the future. Rather than fretting over how long stocks will remain in favour, investors can use the SIP feature of mutual funds to gain equity exposure. As always, research the scheme and the fund house offering the product to see whether it is in line with your risk profile before making the investment.
Disclaimer: The above information is prepared for the purpose of investor education only and intended to consider as investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. Investors should consult their financial advisers before taking any investment decision.
Mutual Fund investments are subject to market risks, read all scheme related documents carefully.