While high volatile stocks exposes investors to more risk, the less volatile stocks keep the risk factor in check.
By Kaushlendra Singh Sengar
It has always been a controversial issue over selection of stocks in the equity markets due to their distinct associated standard deviation. Equities are usually classified upon their volatility as selecting high volatile stocks exposes investors to more risk while less volatile stocks keep the risk factor in check. While the selection of high or low volatile stocks depends upon the kind of investors as aggressive investors collect stocks with higher standard deviation in order to make fortune in a short span of time but long term investors follow the Buffet style of wealth creation. There is a third breed of advanced investors who follows the concept of diversification while selecting stocks to get an edge over the normal returns of equity markets and dodge the systematic risk.
One can find all these kind of investors in equity markets easily. However, a meltdown in equity markets similar to the recent nosedive due to Covid-19 pandemic gave birth to investors who invest in high volatile stocks when equity markets are knocked down by bears to ground to achieve maximum gains and show their cards when the index gets back in the overbought zone. While it has been observed that the timing of liquidation of volatile stocks when markets start rising and reach restoration levels is difficult to gauge. Most often, investors fail to cash in the profits that were generated by investing in the fear as high volatile stocks receive a dull response when markets rise back and defensive stocks become favorites.
run-up in Indian markets since March
Right from the multi-year highs of 12,430 levels to deep lows near the psychological support of 7,500, blood was heavily spilled on the Indian bourses as ‘Intensified selling’ was the word buzzing that time. Investors were scared and quality stocks had tanked to throw away prices. The index started moving higher as investors found 7,500 levels comfortable to be a value bet to bank on and let their investments run for a period of time. IT and Pharma sector became the front lead, agriculture stocks got limelight and chemical sector was crème-de-la-crème in the market. Reliance made a lot of tie-ups with foreign institutions having a vision of achieving 360-degree digital transformation of India, which pushed the Reliance share prices above Rs. 2,000. Many stocks have been more than doubled and investors with a mindset of ‘Buying the Fear’ are still sitting on pile-up of value bets despite the 50-stock bundle has touched 15,500 mark.
Time to turn to defensives
It is not deniable that investors always look for an opportunity to book profits in the equity markets when the index reaches an overbought position or a psychological resistance and a kiss of 15,000 levels fulfills all requirements. The index has reached much higher than the pre-Covid levels as the vaccination for the ongoing pandemic has been developed. Moreover, the valuations of majority stocks have turned expensive which are ticking for lighting the long positions and re-entering at lower prices. This is the high time that investors should turn back to defensive stocks in order to dodge the systematic risk as volatile stocks could dampen their returns.
No matter what kind of investor you are, which salary class you belong to, which type of portfolio you want to build, inculcation of an FMCG stock into your portfolio is observed highly. Not only the rising markets are an opportunity where investors add an FMCG stock to make some quick bucks but FMCG stocks also act as defensives when markets flow through turbulent times. The major element which has influenced investors to ‘gung ho’ over FMCG stocks is their quick cash conversion cycle which has made them cash-rich companies and high dividend yield stocks. Major FMCG stocks enjoy debt-free status or low debt-equity ratio which restricts their cost of equity due to low risk and interest obligations. There are sufficient entry barriers for new entrants as old FMCG players have spent considerable funds on promotional activities for brand recognition and development of product line. It is inevitable to avoid an FMCG stock while designing an optimal portfolio as they serve a defensive role when systematic risk get trigger and standard deviation spike.
(Kaushlendra Singh Sengar is the Founder & CEO at INVEST19. The views expressed are the author’s own. Please consult your financial advisor before investing.)