What MF investors should do during falling markets

While investing in mutual funds, the biggest concern for investors is the prospect of negative portfolio returns. One of the key elements of success in the markets is understanding financial behaviour. It is those who understand the risk element and are able to manage their expectations reasonably that are most likely to succeed. However, research shows that investors experience a whole lot more of anxiety due to negative returns compared to the joy they feel on earning good returns.

It is crucial, not only to have a financial plan in place but also to stick to it irrespective of the ever-evolving market dynamics. Ups and downs take place but the key is to maintain a long-term view on the broader asset classes. Yet, that does not in any way imply that one cannot ever change his/her stance. In fact, changes in the economic scenario indicate a need to make changes to our existing asset allocation strategy.

We have listed below various plans of action for investors in a scenario of falling markets.

Keep your equity investments intact

In case you are saving for a financial goal with an investment horizon of at least five years, the equity mutual funds should have considerable allocation depending upon your risk appetite. Of course, it is vital to review your mutual funds portfolio quarterly and re-balance it annually. Many studies have been conducted showing that equities as an asset class generate higher inflation-adjusted returns over long-term. Historically, even the volatility eases with holding equities for longer periods.

Avoid NFOs and closed-ended funds

Fund houses are wise enough to focus on closed-end funds and NFO (New Fund Offer). In fact, they even offer higher commissions to mutual fund distributors to sell closed-ended funds and NFOs. Investors lose liquidity by investing in closed-ended funds as their money is locked up until the fund matures. On the other hand, open-ended funds are more liquid. In case of NFOs, unless they have something different to offer that will help you in further diversifying your portfolio, it makes sense to avoid them since there is no estimation of its performance. Additionally, there are available, other funds in the category having a reasonable price history.

Consistency matters

Point to point returns or trailing returns may provide a false indication as they may be influenced by how the fund has performed in that particular period. Hence, they allow you to only understand the returns you could have earned if you had invested in that particular period. Rolling returns, however are something that show consistency in the performance of the fund. If you want to know your one year returns, then trailing returns can be calculated based on present NAV and the NAV of a year ago whereas in case of rolling returns, one year returns and rolls of each day are calculated. Say for instance, you want to calculate one year rolling returns for a period of five years starting January 01, 2015, then your first returns would be from January 01, 2015 to December 31, 2015. Second returns would be from January 02, 2015 to January 01, 2016 and so on. Then, the average of all one year returns is calculated to arrive at the rolling returns. Ideally, returns over the complete market cycle must be considered, including the bearish as well as bullish markets.

Invest via SIP route

Investing through SIP route has the benefit that investors need not worry about the rise and fall in the market. The way that works is that when markets fall, they are able to buy more units for a low NAV and as the markets rise, they buy less units at a high NAV. So, this way, the benefit of rupee cost averaging is enjoyed. Having said that, investing for a long-term period is the key. If you are disciplined enough and can stomach the market shocks, then lump-sum investments might prove to be a better option for you. However, if that is not the case, then SIP is a better way to invest in mutual funds.