Markets: Bogged by index levels? - Views on News from Equitymaster

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Markets: Bogged by index levels?

Apr 12, 2006

Thinking twice about Sir Newton's law? Well, we do not blame you if it is in the context of the Indian equity markets, as they have defied the law of gravity and continue to move in a one-way direction. However, a large part of this one way run could be attributed to the immense liquidity prevailing in the system, especially with mutual funds (MFs) and Foreign Institutional Investors (FIIs) sitting on huge piles of cash. Every word of caution, even by the most experienced of players in the market, has been proved wrong. Given the above backdrop, we had recently conducted a poll on our website asking investors if stock market index levels influenced their investment decisions. Around 63% of those who polled, indicated that this was the case with them, while the remaining voting that market levels did not matter to them.

Our take is that one should not simply go by the five-digit figure and get ecstatic or frightened, as over a long-term period, equities are supposedly the best investment option. Also, equities are the among the most liquid investment options, in case any emergency crops up, and an investor can get back his money within 48 to 72 hours.

Let us look at it this way. In 1984, the BSE-Sensex (NSE did not exist) was about 400 points. Now it has crossed over 11,500 levels. Mathematically, that translates into over 17% rate of appreciation each year over the past 22 years.

Now let us take a slightly conservative approach and assume that the indices will grow at 15% per annum each year (the Sensex has already appreciated by over 23% in this calendar so far) in years to come. Using the same mathematical formula, the Sensex should be in the neighbourhood of 185,000 points in 20 years' time. Wait! Please do not get too much excited and sell all your other investments to invest in equities. As has been the case in the past, the ride from here on will not be as steady as it seems. One must remember the risks of being in equities and also recall the journey from 400 to 10,000 - there were years when the markets lost money. During the journey, there were instances when the markets lost 20% in a year, while in heady times, the benchmark indices gained over 80%.

So it will NOT be a 'straight line' to the sky but many bumps along the way. Although, we continue to believe that equities, over a long period of time, will continue to outperform other assets classes like debentures/bonds, property and gold. And they should, because you take more 'risk' by being in equities.

Thus in conclusion, we would like to say that simply looking at where the index is today should not bog one down, while investing from a long-term perspective. Also, there is a possibility that the past 3 years will not be replicated in the future. One should rather invest with the idea of accumulating surplus for meeting personal financial goals (like children education, marriage and retirement) and, in the mean time, beating inflation or probably getting more returns than the highest yielding paper or deposit.

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