In the last three months, the MSCI Emerging Market Index has rallied 26% while the Nifty has been flat. The current level of 18000 is fairly valued and is undergoing a time correction as earnings growth is currently tepid. In such a situation, investors should weed out underperformers, avoid over-diversification, stick to asset allocation and look for capital protection. They should always look at opportunities to rebalance the portfolio, take stock of their risk appetite and the assets they have invested in.
Weed out underperformers
Underperformers need to be seen from two angles; first, businesses which are in structural downtrend or which are being discouraged by government policies. The other set of underperformers pertain to companies which could be undergoing a cyclical downtrend. Sameer Kaul, MD and CEO, TrustPlutus Wealth, says if the investor has a long-term view, it makes sense to sit through the downturn and exit the stock when the uptrend in the business cycle is peaking out. “Certain businesses inherently have poor financial metrics (low ROE, high debt) such as power companies, oil refineries, etc. Such firms too should be exited as many of them are susceptible to frequent policy changes by the government,” he says.
Similarly, Vivek Sharma, director (strategy) and head of investments, Gulaq, a part of the Estee group, says irrespective of the valuations, investors from time to time should weed out underperformers. “In case you are investing in diversified index funds, then obviously there is no need to review and it is a very simple and effective approach for many investors,” he says.
Investors tend to over-diversify when the markets consolidate. Lots of stocks or funds do not necessarily mean that investors are de-risked or well-diversified. In fact, after a certain point, there would be duplication either in the same sector or same category or the same industry. A portfolio of stocks should have a fair representation of sectors to avoid concentration risk and the intra-sector diversification should be kept under check by focusing on two to three best picks as opposed to a number of large-cap and mid-cap stocks of a particular sector simply because the sector is in flavour. A focussed portfolio of five to seven sectors with each sector having two to three top bets should be an ideal construct.
Santosh Joseph, CEO and founder, Germinate and Refolio Investments, says it is important to take stock that diversification, whether by scheme or sector or by category, is done and investors have just the right amount of exposure to that particular investment they desire. “Diversification, if overdone, becomes di-worsification. Therefore, to avoid your portfolio getting overly diluted, ensure only the right amount of funds or securities are there and optimise, rather than over-diversify,” he says.
There is an investment approach which requires one to keep investing in the major sector, which does not work in markets. Rohan Mehta, CEO & portfolio manager, Turtle Wealth, says investors must stay invested in the performing sector and leave underperformers aside. “The performing sectors such as auto, banks, manufacturing, infrastructure are the major themes for the next two to three years. Too much diversification looks good in the investing books but looks faded in the portfolio performance,” he says.
For individuals, asset allocation is based on their risk appetite, which will change based on age, income, other situations around their life. Change in risk appetite will impact portfolio composition, which has two main components of portfolio growth and protection assets. Equities and real estate are examples of growth assets. Similarly, bonds, debt mutual funds and gold are examples of protection assets.
Kaul of TrustPlutus says if an investor’s risk appetite has reduced he can increase allocation to protection assets and reduce allocation to growth assets. “Depending on the individual situation, rebalancing the portfolio can be done in two ways. One is to take capital from one asset bucket and allocate to another or by allocating more incremental capital to the asset bucket where investors want to increase allocation,” he says.
Any allocation towards equity, unless fully hedged, exposes the investment to probable mark-to-market losses. Fixed income securities carry inherent risk associated with interest rates, credit ratings and liquidity. The probability of losing capital can be minimised if instruments are held till maturity to mitigate interest rate risk.
Nirav Karkera, head of research, Fisdom, says if such an instrument carries the highest credit rating, like sovereign, probability of a default is relatively miniscule. “Currently, options offering close to capital protection would include government securities, liquid funds, money market funds, and PSU plus SDL bond funds or target maturity funds if the investment horizon matches the residual maturity,” he says.
VET YOUR BETS
Nifty at 18000 is fairly valued and is undergoing a time correction as earnings growth is tepid
Sectors like auto, banks, manufacturing, infrastructure are the major themes for the next two to three years
Now is the time to consolidate your holdings If you have over-diversified