We tried to run away from debt funds last year when bad news came one after another in terms of credit rating downgrades. This year, as key indices crashed by 35 per cent, the thought of moving away from equity funds may be predominant. Is it wise to sell at the first sight of bad news? Or, can we use such steeps falls to repair our portfolios? The answer lies in your asset allocation, an oft-repeated term of financial advisors. And as we approach the end of the financial year, it is important that you use this opportunity to rebalance your portfolio.
Do not overreact
Your asset allocation and your financial goals should anchor your investment decisions. There is a tendency to jump to safety when the news flow is continuously negative.
Too much of fixed income instruments in your portfolio may give you safety, but returns will be low. Besides, inflation and taxes eat into your returns. Too much of equity may give you high returns, but there is additional risk. The key is to balance risk and returns.
Joydeep Sen, founder of wiseinvestor.in warns investors against recency bias. “Investors should not read too much into the recent fall in stock markets and decide to turn away from equities to bonds,” he says.
Vishal Dhawan, founder and chief financial planner of Plan Ahead Wealth Advisors says that strategic asset allocation should not be changed just because the stock markets are volatile. “Any change in strategic asset allocation should be done only if there is a life event that requires liquidity in the near term,” he says. For example, you may want to fund your child’s college fees next year.
Review your asset allocation
Assess your allocation once in three to six months. If any component (equity/debt) increases in value drastically in the interim, rebalance. “However you should act only when there is major divergence from the stated asset allocation,” says Joydeep.
Let’s say you had invested Rs 10 lakh – 60 percent equity, 30 per cent short term bond funds and 10 per cent in gold ETF – in December 2018. In March 2020, your asset allocation to equity would stand at about roughly 54 percent in equity, 33 percent in debt and 12 percent in gold. This is typically less than 10 per cent points away from the stated asset allocation, and can be continued for the time being.
However if you have invested in one of the sector funds or funds which significantly underperformed the markets, then there would be bigger changes from the stated asset allocation. In that case you need to take corrective actions.
Rebalancing your portfolio should be done taking into account your changing financial needs.
For short-term goals, stick to safety. A portfolio of short-term bond funds and fixed deposits, depending upon your risk profile and tax rate would do well. Further, Sen prefers investments in relatively low-risk options such as banking and PSU bond and corporate bond funds over credit risk schemes. For long-term goals, you can consider investing in multi-cap funds with good track records.
The lockdown and imminent slowdown in the economy are expected to hit businesses and result in job losses. “If you foresee the risk of job loss in the near future, you can enhance the size of contingency fund from six months to 12 months. Do account for EMIs as well,” Dhawan says.
Take adequate health insurance. Do not rely on only your employer provided health insurance, if you foresee a job loss.
Based on all such considerations, allocate funds to a particular asset class; also take note of your surplus. That will give you an idea of the amount of money you can invest in equity mutual funds.
Investing in equity mutual funds
You should not stop your systematic investment plans (SIP) in equity mutual funds during corrections. “Continuing with SIPs during these times work better for rupee-cost averaging, which is the essence of SIP investing,” says Harshad Chetanwala, certified financial planner and co-founder of MyWealthGrowth. Do not invest all your surplus in equity mutual funds in one go. Instead, deploy that amount in equity funds over four or five instalments, he adds. Staggered investments in equity mutual funds help you avoid timing risks. Use a systematic transfer plan (STP). Invest your lump-sum in a liquid or overnight fund and move a fixed sum to an equity fund. Exit loads and taxation are important considerations when making such switches.
Within equities, consider investing in international mutual fund schemes. This is the right time to initiate such investments. Dhawan suggests equity mutual funds that invest in stocks listed in developed markets such as the US.
Don’t jump into equity funds with all your cash in one go. Do not borrow to invest. The markets may take time to recover. Steer clear of sector focused equity mutual funds if you do not understand the sector dynamics.