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  • Mar 5, 2022 - Stock Market Selloff: How to Buy the Dip Using the Mutual Fund Route

Stock Market Selloff: How to Buy the Dip Using the Mutual Fund Route

Mar 5, 2022

As geopolitical tensions are escalating in the backdrop of the Russia-Ukraine war, equity markets worldwide are displaying some wild swings.

Investors don't know when the clouds of gloom and doom will clear. So market participants are turning jittery and preferring to go short on the market.

Other than geopolitical tensions, the following factors are keeping Indian equity markets on tenterhooks.

  • Boiling prices of Brent crude oil (due to supply disruptions)
  • Possibility of an increase in excise duty on fuel (petrol and diesel) prices
  • A surge in metal prices
  • Higher imported inflation
  • Possibility of the U.S Federal Reserve increasing interest rates from March 2022 and perhaps even the Reserve Bank of India following suit
  • Higher input costs possibly weighing down the profitability of companies
  • The outcome of the UP election which is seen as a precursor for 2024 Lok Sabha elections

India's bellwether index, the Nifty 50, is down around 11% from its October 2021 peak. It would be a bold call to declare the worst is already behind us.

The India Volatility Index (India VIX), an indicator of market volatility, has been inching up constantly since October 2021.

The India VIX is a forward-looking indicator because it hints at potential volatility in Nifty 50 over the next 30 days. A higher value indicates a higher expectation of volatility and vice-a-versa.

That said, the India VIX at present is nowhere near the levels witnessed in February-March 2020, i.e. the onset of the coronavirus pandemic.

This goes to show, although the selling pressure of Foreign Portfolio Investors (FPI) is mounting, the Indian equity markets are supported by Domestic Institutional Investors. They have been buying and are arresting the downside to an extent.

As a retail investor, it's advisable to make use of the selloffs to buy on dips. This will serve to be a meaningful strategy to invest in Indian equities for the long term.

Historical evidence suggests that money invested in quality stocks/mutual funds during times of uncertainty has fetched attractive returns over the long term.

To take advantage of the weaker market conditions and the anticipated volatility in the foreseeable future, you can take the diversified equity mutual fund route.

Doing so will help you diversify across market capitalisations and various themes/sectors with professional fund management.

This shall also free you from the hassle of tracking markets daily, selecting stocks for the portfolio, and monitoring their performance on a regular basis. The fund management team of the respective fund will take care of all these functions for you.

Besides, it will be possible for you to invest smaller amounts and potentially gain from investing in equity mutual funds.

All you need to do is carefully choose the equity mutual fund schemes for your portfolio and devise a sensible strategy. Taking shortcuts and investing in any scheme in an ad hoc manner or simply copying the schemes of your friend/relative/colleague/neighbour may not serve to be in your best interest.

To sail through challenging times such as at present, consider following the 'Core & Satellite Approach' - a time-tested investment strategy popular amongst smart equity investors.

The term 'Core' applies to the more stable, long-term holdings of the portfolio. The term 'Satellite' applies to the strategic portion that would help push up the overall returns of the portfolio across market conditions.

The 'Core' holdings should be 65%-70% of the portfolio and consist of equity funds such as Large-cap Fund, Flexi-cap Fund, and Value Fund/Contra Fund.

The 'Satellite' holdings, on the other hand, should make up 30%-35% and comprise of equity funds such as worthy Mid-cap Funds and an Aggressive Hybrid Fund.

When you construct an equity mutual fund portfolio based on the 'Core & Satellite Approach', you should ensure it does not contain more than 7 to 8 equity mutual funds. There is no point in over-diversifying your equity mutual fund holdings.

It would be best to ensure that no more than two equity mutual fund schemes belonging to the same fund house are included in the portfolio.

Further, no more than two schemes in the portfolio should be managed by the same fund manager, all the schemes should have a strong track record of at least five years, outperformed over at least three market cycles, are among the top performers in their respective categories, and are abiding by the stated objectives, indicated asset allocation, and investment style.

Your objective, as an investor should always be to try generating superior risk-adjusted returns.

Now let's see how various mutual fund schemes have performed...

Table 1: Performance of various equity scheme categories

Category Returns (Absolute %) Returns (CAGR %)
3 Months 6 Months 1 Year 3 Years 5 Years 7 Years
Small cap Fund -4 4.2 36.3 28.6 17.1 15.8
Contra Funds -2.1 3.1 20.4 20.7 16.4 13.1
Multi Cap Fund -3.7 2.1 24.4 22.3 16 13
Mid Cap Fund -3.9 2 24.2 23.1 15.5 13.8
Flexi Cap Fund -2.9 0.8 20.3 19.1 14.6 11.9
Focused Fund -3.2 1.1 18.7 18.8 14.4 12.3
Large & Mid Cap -3.2 1.7 21.4 20 14.4 12.5
Dividend Yield -0.8 3 27 19.4 13.9 11.6
Large Cap Fund -2.5 0.2 16 17 13.6 10.8
Value Fund -1.8 2.3 20.9 17.8 12.7 11.9
NIFTY 500 - TRI -2.5 1.3 18.8 18.2 14.5 11.5
NIFTY 50- TRI -1.1 1 17 17.2 15 10.9
Data as of 28 February 2022
(Source: ACE MF, PersonalFN Research)

Small-cap Funds, Mid-cap Funds, and Contra Funds have dominated on performance across timeframes, except in the last 3-4 months.

However, you must also note that the excellent performance demonstrated by these three categories over the last year has helped them prop up returns across time periods.

Large-cap Funds, Value Funds, and Dividend Yield Funds have done well during the challenging market conditions witnessed in the last 3-4 months, and their overall performance has been steady.

Thus your core holdings must include Large-cap Funds and Flexi-cap Funds while it's a good idea to include Mid-cap Funds in the satellite holdings.

When you are buying in a lump sum using the dips of the equity market, prefer making staggered investments rather than deploying all your investible surplus at one go.

If you are choosing SIPs, make sure you continue SIP-ping into the best equity mutual fund schemes. Do not stop or discontinue SIPs when the equity markets descend. SIPs can help you manage stock market volatility.

When markets go down, your SIPs can help you accumulate more units, and when they go up, the value of your investments would rise.

Let's take an example.

A monthly SIP investment of Rs 10,000 in Canara Robeco Bluechip Fund made on the first of every month since March 2017 through SIP would have fetched you superior returns vis-a-vis the category average returns of Large-cap Funds.

You would have accumulated a total of 21,283 units over the last five years, whose market value as of first March 2022 would be Rs 9.4 lakh. In other words, you would earn a compounded annualised return of 18.8%. With this, you would beat the 5-year return of 17.4% generated by the same fund under non-SIP investments.

What made this difference?

The inherent rupee-cost averaging feature of SIPs.

During side-ways markets between March 2017 and March 2020, you would have accumulated 14,695 units. A brief yet deep bear market between April 2020 and July 2020 would have allowed you to accumulate 1,600 units while a sharp rally from then until February 2022 would have let you buy only 4,988 units.

The first 3 years of your SIP investment may have been a bit frustrating as your CAGR return on your SIP investments was a moderate 10.5%. But the subsequent downtrend and a massive re-rating of Indian markets shored up your overall SIP return.

Hence, in fact, as a good investment practice, make it a point to step-up or top-up your SIP investments when markets go down (even in the current market conditions). It would facilitate better rupee-cost averaging while you endeavour to compound wealth.

India is expected to remain one of the fastest-growing economies in the world and there is no need to panic at this juncture. Buying the dip is a sensible option rather than selling in a panic.

Happy Investing!

Disclaimer: This article has been authored by PersonalFN exclusively for PersonalFN is a Mumbai-based Financial Planning and Mutual Fund research firm known for offering unbiased and honest opinions on investing.

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