Why being patient and regular can save the day

Panic built up in the equity markets over the last one week, sending stock prices crashing. The speed with which the benchmark indices were headed lower was alarming to say the least. From a level of around 11270 on the Nifty 50 seen on 5th March we had gone straight to around 9600 – a fall of almost 15% in four trading sessions!! Friday the 13th saw an extraordinary recovery allowing the Nifty to close at 9955. Volatility is back in Indian markets.

This is just the correction on the headline index, individual stocks fell far more. Most diversified equity funds corrected anywhere between 12%-14% in that period. It is unnerving to see such value get eroded so quickly from your investment pile. 

How much should you be worried?

What history tells us?

This is not the first-time markets have been in panic mode. If you look at the last 30 years, there have been several periods where the market corrected sharply in a span of days. In fact, since July 1990, on 49 occasions the benchmark Nifty 50 has corrected more than 5% in a single day! On four occasions the Nifty 50 corrected more than 10% in a single day.

Despite this, if we were to consider the benefit of being invested since July 1990 in a basket of stocks that mirrors the Nifty 50 portfolio at all times, you will see that the annualised return or returns spread across a year work out to 19%. The absolute value of the Nifty 50 was around 280 in July 1990 as opposed to around 10,000 today. 

There are two learnings from this historical event: you need to be patient while investing in equity as returns often come in a chunky way, unless you are invested in the market at the time, you will miss out. Secondly, you have to keep investing regularly throughout different market cycles.

As you can see from the chart above, in this long journey there have been several points where the market has corrected. Most notably in the year 2000, in a span of two months the Nifty 50 was down 22%. One might think that’s enough, but over the next 7 months, it corrected another 10% and a further 17% over the next one year. That’s more than a year and a half of correction with the index falling around 42% from March 2000 till Nov 2001.

For another whole year, returns were pretty much neutral, it’s only from Nov 2002 that the annual return shot up to nearly 70%. Investors needed to be patient for more than three years to start seeing a positive trend in the market. But that’s not all. Even in November 2003, at around 1600 the Nifty 50 was still roughly 7% lower than the level seen in March 2000. 

There are two learnings from this historical event: you need to be patient while investing in equity as returns often come in a chunky way, unless you are invested in the market at the time, you will miss out. Secondly, you have to keep investing regularly throughout different market cycles.

If you stopped investing after March 2000, then you would have to wait even longer for a positive return. Had to continued regular investments through year 2000 till 2003 (and forward) you would have bought equity at lower prices too, thereby making good gains by the time the uptrend in the market came about. 

Of course, all this is possible if you understand that predicting market behaviour in the short term is difficult, however, over longer periods market behaviour follows the path of economic growth. In a positive economic growth environment, returns from the stock market will also be positive. 

This market behaviour that we saw in the year 2000, got repeated again in 2007-08 (see table). Sharp declines in equity markets are a given. As close as November 2018, the Nifty 50 had corrected 10% in three months, but it recovered 14% a year later. 

What should you do?

All said and done at a Nifty 50 level of 9500, your equity mutual fund portfolio gains would have back tracked around three years. For those who began investing recently or a year or two ago, growth rates look bad. The markets are likely to be quite volatile in the next few months. However, as you can see from past experience, the only way forward is to remain invested and keep adding to your portfolio regularly. 

Equity markets need time. While the market trend line can seem intuitive as you look at it today, there is no way of knowing in advance what will happen tomorrow. If you pull out today, you may or may not be able to be fully invested when the market turns around. If that happens you miss out on returns on the way up. Regular investing makes sure you take advantage of the falling prices so that you gain on the uptrend. 

Caveat

The biggest caveat here is quality. Be it in stocks or mutual funds, unless you pick good quality securities, you will lose out. When there is fear and panic in the market, all stock prices fall. Similarly, when the market is in a bull run or uptrend, majority of the stock prices move up. You have to take a deeper look at the quality of the stock or mutual fund portfolio, because after a sharp fall while good quality recovers fast, others remain at low prices making your losses more concrete. 

Hence, take this time in the correction to bring back focus on quality. If you find you are unable differentiate one equity mutual fund from another on the quality matrix, let the advisor take over. Under no circumstance can you make consistent long term returns from equity without a good quality portfolio.