Market volatility - Everything you need to Know
Volatility in the market is an estimate of the fluctuation in the price of an asset. It is measured by computing the average difference between the highest and lowest prices of a stock over a certain duration. A stock with a tendency to rise more also has the tendency to fall more.
Many mutual fund investors tend to panic when the market is highly volatile without realizing that they can buy more units when the market is off as the prices of the units will be low at the time. In the same manner, when the prices of the units are higher, they will receive higher returns on their investments. This way they can take advantage of the market volatility and achieve capital appreciation over the long term.
Before we tell you how market volatility can affect your returns and how you can overcome it, let us understand a few basics about mutual funds and the benefits they offer.
What are mutual Funds?
Mutual funds are investment vehicles that offer attractive returns through investments in equities and other securities. The money of investors are pooled and invested in stocks, bonds, etc., to generate returns. Mutual funds are undoubtedly one of the best ways of wealth creation due to the below-mentioned reasons:
- Higher returns - Mutual funds can offer superior returns over traditional ways of investment such as fixed deposits, gold, real estate etc. Mutual funds invest in market-linked securities to offer attractive returns to investors. According to a data, equity mutual funds have fetched average returns ranging between 10% and 15% over the past 10 years.
- Disciplined investing - By investing in a mutual fund through the SIP (Systematic Investment Plan) route, you can inculcate the habit of regular investing. When you invest through an SIP, a fixed amount is invested on the same date every month which slowly gets incorporated into your monthly budget. Regular investing will help you achieve your investment goals in a disciplined manner.
- Professionally managed - Mutual funds are managed by professional fund managers with many years of experience who study the markets, analyse them, and manage the investments in a way so as to achieve optimal returns. Also, since mutual funds are governed by the regulations issued by the Securities and Exchange Board of India (SEBI), you can rest assured that they are secure and transparent.
- Diversification - Mutual funds reduce the risk of your investments by diversifying it across various asset classes. Sudden fluctuations in one stock can be balanced out by the performance of other stocks in the fund, thereby reducing the overall risk. To reduce the risk further, one can invest across different kinds of mutual funds. A financial advisor can help you select the right funds for balancing your portfolio.
- Convenience - Investing in a mutual fund has been made convenient and easy with the help of online investing facilities. With only a few clicks, you can start a mutual funds investment. Even the KYC (Know Your Customer) process can now be done online for investments below Rs.50,000. Mutual fund investments done through the online medium are swift while one can also track the performance of the fund.
How does market volatility affect the returns on your investment?
Volatility in markets can sometimes be confused with 'risk' by many investors but in actuality, volatility is an anticipation or reaction to a risk event. A high volatility is observed in asset classes where sentiments drive the prices or where there is a lack of direction about where the firm or asset class is headed. Volatility is responsible for sharp movements in the performance of an asset class/security/instrument.
Volatility in the market can give investors an impression that they are losing their money and hence, many investors withdraw from mutual funds when they see that the funds are not performing. This step is detrimental to your investment goals as the performance of the funds may bounce back and over a long term may fetch you really good returns. Hence, it is always advisable to invest in mutual funds for at least 5 years to receive optimal returns.
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A short volatile phase in the market should not concern you as an investor because as mentioned above, it gets balanced out and can still give you good returns when your money remains invested for a longer period. It is only the prolonged volatility phase that you need to worry about. However, you should remember that volatility in the market cannot be avoided and it is also the reason why your investments deliver good returns.
To help ease your worries regarding volatility, we have listed out a few ways in which you can tackle market volatility:
- If your investment horizon is for 10 years, volatility should not worry you. A period of 10 years is enough to iron out the effects of the short-term volatility. You should stick to your investment goals knowing that you will achieve significant gains at the end of your investment period.
- Review and rebalance your mutual funds portfolio at least once in a year. Doing so will help you straighten out the effects of volatility to some extent.
- Invest in mutual funds through SIPs. SIPs are one of the best ways to invest in mutual funds as they are least impacted by market timings and volatility.
- While investing in mutual funds, ensure that you invest in a mix of equity and debt funds. So even if equity funds are not performing well, the debt funds will hedge out the volatility as they are low-risk and are less affected by volatility.
The most common mistake that most investors make when the market is volatile is to withdraw from the mutual funds and in doing so, they fail to achieve their investment goals. Investors should remember that volatility is an undeniable part of mutual fund investments but if you follow the above-mentioned tips, you can overcome it and achieve your investment goals. Now that you know how market volatility can be used to your advantage, you can confidently go ahead and invest in mutual funds without any worries.
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