Fall in equity markets last month resulted in huge wealth erosion of traders and short-term investors. Typically, this describes the phenomena of equity investing without any financial goals.
It was a setback for day traders as some of them lost their entire capital due to leveraged positions and incurred huge losses in just two days. Long-term investors who had invested in equity market at least a year back are still sitting on a handsome profit even after the huge sell off in the equity market.
For the investors having invested on the basis of their financial goals with a long-term investment horizon, it is advised not to panic and remain invested in the equity market as per the advised asset allocation.
For a long time we have been advocating financial planning approach to invest, which emphasizes on goal based investing. This kind of sheer volatility in the market again reminds us about the need of proper asset allocation.
In January where Sensex lost 13 per cent on absolute basis, medium-to-long term Income Funds delivered 21 per cent annualized returns. Gold Funds delivered as high as 10 per cent absolute returns in the month of January.
Therefore, it is quiet obvious that different asset classes perform at different times and it is not possible to switch to best asset class by timing the market. The right way to get the best of every asset class is proper asset allocation keeping in mind your financial goals coupled with a long-term investment horizon. When we talk about asset allocation, it is not just limited to equity and debt. It can incorporate international equity funds, gold funds, structured products and real estate products.
The other important principle in investing is portfolio rebalancing. Whenever an asset class delivers very high returns in short term, proportion of different asset classes in the portfolio automatically changes. This is the time to rebalance the portfolio as per desired allocation. In that case investor should book some profits in the asset class that has outperformed and invest in other asset classes in the portfolio.
Investors need rebalancing of equity portfolio also if a particular style of equity funds is dominating the overall equity portfolio. In equities there should be proper balance of large cap funds, mid cap funds and other thematic funds. In the last one year there has been a huge rally in some of the sectors and some of these sectors still hold potential for long term but we feel that investor should not over expose themselves in a particular sector and maintain a diversified portfolio.
Equity markets being inherently volatile, so we feel that investors must continuously evaluate their asset allocation strategy and do the necessary portfolio rebalancing in consultation with their financial planner. Remember, financial planning and proper asset allocation are the pillars of investing success.