Investment strategy | volatility: How to make safe investments in a volatile equity market

2022-04-09 21:46:00

In financial markets across the globe, volatility is used to statistically describe the expected range of price movements for a security or market index. Usually expressed as a percentage, it is an indication of the implied risk on any investments in the underlying instrument, at a particular point in time. Generally speaking, higher the volatility, higher is the risk associated with investing and hence a higher volatility index value hints at an atmosphere of fear in the markets.

In our equity markets, India VIX is the leading volatility indicator and is a volatility index based on the Nifty Index Option prices. When tensions between Russia and Ukraine escalated during the last week of February, India VIX jumped by almost 60% and was accompanied by an 8.5% decline in the benchmark Nifty50 market index. However, volatility has been waning ever since with India VIX returning back to previous levels and the Nifty50 recouping all lost ground. For most retail investors, this recent market behavior only serves to highlight the vagaries of the equity markets and alludes to key investment advice essential to successfully tide over periods of market volatility.

Adopting an equal-weighted and cost-averaging method of investing in equities can not only protect your invested capital but also help in generating sizeable returns by taking advantage of periods where prices are depressed. By assigning an equal weightage to all companies in one’s portfolio, capital allocation will also follow the same trend and essentially helps in mitigating risks associated with relying too heavily on a particular stock or sector. Cost-averaging refers to the practice of systematically investing equal amounts in your portfolio over regular intervals, rather than investing in one go. A combination of both approaches can help build a portfolio that can weather all market scenarios with the potential for higher returns.

Diversifying one’s portfolio by investing in multiple asset classes or investment avenues like mutual fund (MF) schemes (both debt and equity based on investors risk appetite), PMS market linked debentures, PTC, gold, etc. can provide peace of mind during periods of heightened volatility. Additionally, including a healthy mix of smallcap, midcap, and largecap stocks in one’s equity portfolio can create a much-needed diversification in both risks and returns potential. Capital allocation across the different investment products or avenues needs to be planned in accordance with one’s risk profile and financial goals.

Focusing on investment instruments or products with strong fundamentals and building up long-term positions in times of increased volatility can yield good returns, since volatility is higher over short term and decreases as the time horizon increases. This involves conducting research and analysis of the investment instrument (returns and risk analysis), understanding the pedigree of the issuer or the company offering the security, evaluating the overall economic scenario, etc.

With the spread of Covid-19 moving towards the endemic stage, the long-term outlook for asset classes like equities continues to remain positive as demand continues to pick-up across all industries and sectors. While it is highly improbable that one can predict every wild move in the equity markets, it is possible to sufficiently cushion one’s equity portfolio from short-term market movements by adopting simple strategies and following a long-term investing methodology.

(The author, Raghvendra Nath is Managing Director of Ladderup Wealth Management)

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