How to be a better equity fund investor?

Equity, as an asset class, has failed to find a place in Indian investors' investment plans on a consistent basis. Though equities have proved to be potentially the best investment option for long term investors the world over, Indian investors have had on-off relationship with the stock markets. The glaring low level of penetration   reflects the way investors perceive equity as an asset class. Many of them become aggressive risk takers when the markets does well and go into their shell when the markets fall. This often results in a set of investors entering the markets with a bang and making a hurried exit as the stock market begins to flounder. 

Investing in equity funds is the easiest thing to do when the markets are on their way up. Not many care about the NAV levels of the funds as they expect them to go even higher. However, when the market starts falling, the anxiety and the fear takes over and invariably they pull out all stops on their equity investments. Many investors end up taking irrational decisions and some of these cost them dearly.

One of the challenges for equity investors is to deal with wild mood swings of the stock market, at times even for seemingly small reasons. The first thing that investors need to do is to revisit their long term objectives whenever they feel the urge to react to any of these situations. Remember, one needs to address risk tolerance from two perspectives i.e. financial risk tolerance and emotional risk tolerance. In the short term, risk can be defined as volatility i.e. how much one's investments can rise or fall during a certain period. Over the longer term, risk can be defined as the potential to lose money or inability to achieve investment goals. It is important to understand that time horizon generally decides one's ability to hold on to fallen investments.

Timing the market is not the right way to deal with the fluctuations in the stock market. In fact, timing the market is a classic mistake that investors make time and again.  However, it is crucial to ascertain the quality of the portfolio to ensure future growth. A portfolio consisting of quality funds can guarantee success in the long run. History shows that quality diversified funds have been yielding above average returns. The years of spectacular performance help even out portfolio returns during bear markets. Therefore, it is vital that one doesn't allow one's expectations to be distorted by extraordinary returns during the bull runs as well as by the dismal returns during the bear markets. Remember, short term fluctuations in the market do not take away the ability of equities to beat inflation in the long run. Hence, for all those who intend to build capital over time, equity remains to be the best bet.

Continuing with one's equity investment process is another factor that can go a long way. The truth, however, is that fearing further losses in case the markets were to fall further, many investors are not able to muster the courage to continue investing in a falling market. Another issue that can affect the prospects of investors is their reluctance to make changes in the portfolio. While one shouldn't be making changes every now and then, realigning the portfolio in keeping with the changes in one's circumstances, the markets and the economic conditions is a desirable and sensible thing to do.

Many investors have the tendency to invest in funds that have performed well in the recent past. Needless to say, investing in funds based on something as short-lived as recent performance can backfire. While doing so, one runs the risk of taking the equity portfolio beyond one's risk taking capacity. Besides, the typical "flavor of the month" funds do not have the capacity to perform well on a consistent basis. Therefore, one needs to focus on diversified funds that not only have the potential to perform well on a consistent basis but also provide the right mix of large, mid and small cap stocks in the portfolio.  Of course, the exact level of exposure can differ depending on one's risk profile and time horizon.

Coming back to the need to realign the portfolio, many investors simply refuse to make changes, irrespective of the unfavorable mix of funds in the portfolio, as they simply hate the idea of booking losses. More often than not, they take it is a personal defeat and refuse to exit from them unless the NAV reaches the level at which they got into the fund. They fail to realize that a non-performing fund will take much longer to recover the losses, if at all.

Considering that markets are dynamic and that one can make wrong choices, realignment of the portfolio is important. However, while realigning the portfolio, one must remember that negative returns over the short term from a fund do not necessarily mean poor performance. Even the best of the fund managers are likely to give negative returns during the market downturns. Hence, one needs to consider performance over different time periods as well as the reasons for investing in a fund before taking steps to get rid of it. 

-Hemant Rustagi..

The author is CEO, Wiseinvest Advisors Pvt. Ltd. He can be reached at hrustagi@yahoo.com

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