The equity markets are scaling new heights practically every other day. This is bringing joy to millions of investors as they are sitting on huge profits.

However, it has also put them in a dilemma – should they book profits or continue to hold. A host of questions are bogging their mind – Is the party going to last longer? Is this a bubble and will burst anytime? Or can I invest now?

Are hot markets making your portfolio risky?

There are no easy answers to these questions (but who said investing was easy). We can only study the facts available, judge how the future may unfold and make our choice amongst the various alternatives.

a)  Continue to hold

Indian Economy is one of the fastest growing economies in the World and this is expected to continue for some more years. The Indian demographic profile is quite favourable. The Indian companies are making waves both in India & abroad. Etc. etc. If we are confident about these factors playing out in India’s favour then in next 3-5 years the Sensex may continue to scale new heights.

Together with this view point, if we have a 3-5 years investment horizon and the risk appetite to withstand the short-term volatilities, holding on to ones’ investments may turn out to be a bonanza.

But be prepared as your patience would be severely tested and you need to be psychologically & emotionally prepared for the rough ride ahead. 

b)  Sell and book profits

However, some of us feel that the markets are almost at the peak and hereafter the markets are likely to come down and trade at lower levels. There are enough threats – terrorist strikes, high oil prices, political uncertainty, etc. – that can derail the market.

In such a scenario, one could book profits and re-enter when the markets have cooled down. This would, however, be timing the markets and we have seen that in the long run timing the market has not been a successful investment strategy.

One could also look at booking partial profits and ride the market on the balance portfolio.

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This option is also psychologically very difficult to make. Greed makes us wait ‘one more day’ as we see the markets going-up practically every other day. Also, now if the markets were to slip, quite a few of us would decide to wait for markets to recover a bit. 

c)  Use options to hedge the risk

This is purely an insurance against future losses.

Assume you bought Reliance @Rs.525/- about a year back. Today it is trading at Rs.725 levels. While, you are confident about the Company’s long term prospects and want to hold on for sometime, you are not sure how the scrip may perform in the short-term. Or you may need the funds after say 1 month, but may not get the today’s prices. In such a scenario, you could buy a put option @Rs.720 for 1 month hence, which is presently costing Rs.18. This gives you the right to sell Reliance shares at Rs.720 after 1 month. In the meantime, if the prices were to touch Rs.750, you can forget the contract and forgo the premium you paid. However, if prices were to fall to Rs.675, you still get to sell them at Rs.720, thus making a net gain of Rs.27 (Rs.45 less the premium of Rs.18 paid).  

This alternative hedges your risk against fall in the prices in future. But it carries a cost. Thus it acts as an insurance policy. But, for this you have to pay a cost. Many of us are reluctant to pay this insurance cost and continue to be exposed to full risk. 

As we have seen, there are a lot of alternatives available. We need to decide on an alternative we would be most comfortable with and go for it. There should, however, no regrets if sometimes we go wrong. As long as we make reasonable number of right decisions and make our wealth grow, we should remain satisfied.

The author is Vice President – Nabriya Financial Services, Pune. He can be reached at smatai@hotmail.com