How investors can gain from the stock market correction
Expect volatility in 2018-19
The assembly elections in two major states ruled by the BJP—Rajasthan and Madhya Pradesh—will also test the market. Experts say that investors should not get jittery because of short-term volatility. “Election induced volatility is normal and there is nothing to worry about it. The fear of a coalition government after 2019 is also unwarranted. In the past 25 years, coalition governments have delivered better GDP growth. Coalition will also bring control on government policies,” says Sharma.
Staying put during periods of short-term volatility, such as the one induced by elections, has proved beneficial for investors, historical data shows. “In five out of the past six parliamentary elections, the market has delivered handsome return for holding shares during the turbulent times,” says Prateek Agrawal, CIO, ASK Investment Managers.
Investors can gain from political uncertainity
The market has mostly delivered handsome returns over a two-year period starting the year before the general elections.
CAGR is for a two year period starting the year before the general election. Another factor that will keep the market in check are higher valuations. Though Sensex PE has fallen from 26 in January, when it was in the grossly overvalued zone of 24-28, to 22. It is still in the slightly overvalued zone of 20-24. The Sensex EPS, which has remained flat for the past three years, slightly improved to Rs 1,466 compared to Rs 1,416 during March 2015 and things are beginning to improve now.
“With the bad effects of demonetisation and teething troubles of GST behind us, earnings growth is expected to pick up,” says G. Pradeep Kumar, CEO, Union Mutual Fund. “The December quarter was good and the March quarter is likely to be good as well. We expect 17-18% EPS growth in 2018-19,” says Agrawal of ASK Investment.
However, experts warn that the high earnings growth may not get fully reflected in stock prices. “The expected economic and earnings growth may not result in higher returns because valuations need to correct from higher levels. So, investors may end up getting only mediocre returns in 2018,” says Motilal Oswal’s Agrawal.
Muted earnings growth
Due to sluggish earnings growth, valuations continue to be high.
EPS stands for Earnings Per Sahre. Source: Bloomberg, Complied by ETIG Database On the global front, the continued rate hike by the US Federal Reserve poses a challenge to the Indian market. “The US Federal Reserve has made its intention clear, and it will keep on increasing rates in the coming year,” says Kumar. According to Bloomberg estimates, the US Fed is expected to raise rates thrice in 2018. But rate hikes may not be as big a threat as some commentators have suggested.
The Indian stock market has done relatively well during periods of earlier rate hikes by the US Fed. For instance, the stock market delivered fabulous returns between 2004 and 2006, when the US Fed rate moved from 1% to 5.25%. “The US rate increase is not a big worry now because it will be slow and calibrated. The global economy is picking up and the US corporate profits are also good,” says Ambani. Though the trade war-related fears have subsided a bit, rash moves by the US President on trade could impact the markets.
Don’t worry about rate hikes by the US Fed
Rate hikes by the US central bank, triggered by economic growth, have proved good for the Indian markets.
Soruce: Bloomberg, Complied by ETIG Database Don’t panic, continue with SIPs
Not only should you continue with your existing SIPs, you should increase your investment—for instance, buy when the broader market index is down by more than 1%. The best timing strategy for long-term investors is to go by market valuations: Increase equity stake when the market is in the fair or under-valuation zone
Do not go overboard with equity investments
Equities deliver poor returns if you invest in them when the market is overvalued—as it is now.
Source: BSE, Compiled by ETIG Database * Average 1 year returns Review asset allocation
If you are among the investors who opt for tactical asset allocation based on the market situation, you need to hold your horses. Since valuations are still in the slightly overvalued zone, do not increase your equity allocation. Wait for the Sensex PE to fall below 20, before you start buying.
Retain large-cap bias
Time to stick with large-caps
Despite the correction, mid-cap valuations remain sky high.
Source: NSE, Compiled by ETIG Database Increase allocation to gold
Gold is close to its four-year high and could rise further due to domestic and global factors.
Source: Bloomberg, Compiled by ETIG Database Due to fears of sanction, Russia has emerged as a big buyer of gold, lending support to the yellow metal which is trading at close to 4-year highs. Indian investors have another reason to invest in gold. Any US action against India as part of a trade war will result in an immediate fall in the rupee and will push up the price of gold in the domestic market.
There is no hard and fast rule about gold allocation, but experts suggest between 5% and 15%, depending on your risk profile. So, if you are at the lower band of 5%, you can increase allocation to 10%. Just like other asset classes, you should also see if your allocation to gold has changed from what it originally was. As a first step, you need to set your asset allocation right.
For instance, equity had been doing quite well over the past few years, while gold had suffered, so allocation to equity might have gone up and gold might have come down. It makes sense to shift back to the original allocation to gold, if not raise it a little.