What to do when your portfolio is in down
We all worry about money. It is easy to understand why one would be worried about having little or no money. But, we also worry when we have money. This is especially true if our money is invested in the stock market and there is a market crash. In 2020, during the 1st wave of the COVID-19 pandemic, stock markets crashed dramatically and caught most investors unawares.
While a crash in stock markets or a market correction is impossible to predict, there are various strategies that investors can utilize to minimize its impact on their investment portfolio.
In this blog, we will discuss strategies that investors can utilize to minimize the impact of a stock market crash on their investments.
During market corrections, selling off your investments might seem like a good idea. Negative news such as a pandemic, an asset bubble that’s about to burst, scams being revealed, etc., can influence any investor.
Moreover, in 10 years out of the 20 years, the gap between the best and worst performance days of the NIFTY 50 was less than a month.
This is the key reason why the strategy of timing the market does not work well for most regular investors. The key thing to remember is that fear leads to panic, especially among amateur investors. This panic often makes investor sell their investments at low prices during a stock market crash.
But historically, markets have always recovered from a crash and instead of selling in a panic, you should just stay calm and allow your Systematic Investment Plans (SIPs) to continue. If you manage to continue investing irrespective of market conditions, you will reap the rewards when the markets recover at a later date.
Resist The Urge To Make Panic Buys
Similar to making panic sales during a market crash, it is also important that you do not make panic buys during a market crash. Panic buying can be described as a state of mind that pushes you to make investments indiscriminately, which can become an obstacle to reaching your current investment goals.
After all, when markets are down, it often seems the best time to invest at reasonable valuations. In such cases, investors often invest in Bluechip stocks or purchase Index Funds.
However, many investors forget one key aspect of Equity investing in such cases – their risk appetite. The buying frenzy when markets tank can lead investors to invest in Equities well beyond their actual risk appetite.
So instead of panic buying, you should plan for these investments before markets actually tank. But to do this, you need to know how high or low your risk tolerance is. Only then will you be able to accurately decide how much of your existing portfolio can be moved from low-risk assets such as Debt Mutual Funds and Fixed Deposits to higher-risk assets such as Equity Mutual Funds.
Keep Your Portfolio Rebalanced
Portfolio rebalancing is a strategy that helps in reducing the overall risk in your investment portfolio to provide better risk-adjusted returns on your investments. This strategy involves buying and selling investments periodically so that the weight of each asset class is maintained as per your targeted allocation.
So, the first step in rebalancing your portfolio is to have an asset allocation strategy in place. If you don’t have an asset allocation plan in place already, a stock market crash offers you the perfect opportunity to take stock of your current investments. Some key factors to consider when assessing your current investments are:
• What am I invested in – Mutual Funds, Stocks, Bonds, Gold, etc.
• What is the value of my investments?
• What are my financial goals?
• What do I focus on when building my investment portfolio – consistent returns, growth of capital, etc.
Once you have answered these questions and have a target allocation in place for different asset classes, you can accurately figure out your current situation. Then you can decide which investments you need to buy or sell to reach your asset allocation target.
If done right, rebalancing your portfolio will not only help you stay on course to reach your financial goals but also help manage overall portfolio risk when markets are volatile. That said, it might not be a good idea to rebalance your portfolio in the middle of a stock market crash. You should instead consider letting markets settle down a bit before rebalancing your investment portfolio.
Take Advantage Of Tax Laws
The profits generated by selling Mutual Funds or stocks are called Capital Gains, and these are subject to Capital Gains taxation rules. A fall in the stock markets can be an ideal opportunity to increase the post-tax returns on your investment by using a technique called tax-loss harvesting.
Tax-loss harvesting involves selling your Mutual Funds or stocks at a loss so that you can accumulate a capital loss. This capital loss can then be offset against capital gains from other investments to reduce your tax burden and increase the post-tax returns from your investments.
The tax loss harvesting technique is commonly used by investors towards the end of the Financial Year, i.e., in the months of February and March. But this is not a hard and fast rule, so that the technique can be used at any time during a financial year. A market crash offers the perfect opportunity to book a capital loss by offloading some of the poorly performing Mutual Funds or stocks in your portfolio and replacing them with potentially better performing investments.
Investors can also take the advantage of tax-loss harvesting when they are rebalancing their investment portfolio. This can significantly reduce your annual tax liability while simultaneously improving the asset allocation mix of your investment portfolio.
Protect Your Personal Finances
A stock market crash impacts a lot more than just the value of your investment portfolio. In fact, financial markets can also affect employment, the Real Estate Market, consumption of goods, inflation, and much more. Thus stock market turmoil can have a different impact on different individuals, but there are a few things that you can do to minimize this impact.
• Create a Personal Cashflow Statement
A cash flow statement is a record of all the money that is coming in and going out on a daily basis. By maintaining a personal cash flow statement, you can organize your finances better so that a stock market crash does not impact your ability to take of essential expenses such as utility bills, rent, tuition fees, etc.
Moreover, accurately tracking your expenses can also help reduce extravagant and often unnecessary expenses such as expensive dinners, unused gym memberships, spa treatments, etc.
• Create an Emergency Fund
Another way to protect yourself financially in case of an emergency is to create an emergency fund. In case you do not have an emergency fund yet, you should start one immediately. If you have an emergency fund already, a stock market crash is an ideal trigger to consider topping up the fund with an additional amount of up to 2 to 3 months’ expenses.
• Manage Your Debt
As a rule of thumb, a stock market crash is not the best time for taking on additional debt. If you do so, you run the risk of becoming caught in a critical economic situation. Moreover, a correction in markets might also be an excellent time to refinance existing debt such as a Home Loan, Personal Loan, or Credit Card, especially if you have a good credit score and have paid your EMIs on time to date.
Invest in Equities But Choose Carefully
While Equities are cheaper when stock markets tank, it is essential to be careful when making these investments. One way to benefit from the lower cost of Equities is to change the allocation in long-term investments such as National Pension System (NPS) and Unit Linked Insurance Plans (ULIPs). Both NPS and ULIPs are long-term investments with multi-year lock-in periods.
A stock market crash provides you the perfect opportunity to increase your Equity allocation at a reasonable cost and allows you to switch to a more aggressive asset allocation from a comparatively conservative allocation. This is because Equity investments, especially when purchased at low valuations, have an unmatched ability to boost your investment returns for long-term goals such as retirement.
You can also consider purchasing Equity Mutual Funds and stocks when valuations are low during a market crash. That way, you might be able to generate significantly high returns when markets recover at a later date. For example, if you consider the broad-based NIFTY 500 Index, you will see that this index has gone up by 75% in the previous year, which is substantial. But you must make sure you do sufficient research when selecting individual stocks to invest in.
This is because, when markets recover from a crash, not all stocks give good returns. In fact after the market crash of 2020, many popular names such as Yes Bank, United Spirits, Abbott India, and Bharti Airtel have given negative returns till date.
So, if you plan to make Equity investments during a market correction, make sure you do adequate research. But, if you do not know how to value stocks or don’t have the time to research investment options, it might be a better idea to invest in professionally managed diversified Equity Mutual Funds as compared to investing in individual stocks.
Focus on Making Long-Term Investments
When stock markets tank, a few questions come up every time:
• Will the stock market go down to zero?
• Will the economy recover?
• Can stock prices increase from here?
Every time the answers are the same – the stock market does not go down to zero, the economy always recovers, and stock prices go up, reaching new all-time highs.
While short-term volatility is inevitable when you are investing in Equities, how this volatility affects you depends solely on you. If you are investing for the long-term, these ups and downs in the stock market should not bother you.
So if you are investing for the long-term, you should keep a level head and not pay too much attention to market movements. Instead, focus on your behavior by doing the following:
• Resist the urge to engage in panic buying and selling
• Make sure your portfolio is rebalanced, and you are taking advantage of tax laws
• Protect your cash flows
• Understand that volatility is an integral part of the investment process, and there will be many more market corrections in the future
A stock market crash offers investors a unique opportunity to grow their wealth. But to take advantage of this crash, you must have a plan in place before the crash happens. The 7 strategies discussed above are designed to help you not only weather a market crash better but also make sure that you can grow your wealth significantly when markets recover at a later date.