March 06, 2023
When it comes to investing in the stock market, volatility is the name of the game. However, history shows us that the market has delivered good returns despite all the ups and downs. And investors who continued investing in stocks have certainly benefited from it. Nifty has traversed a spectacular journey, from 1,107 points in 1996 to touching the 15000-mark in 2021, growing 14X in 25 years.
While it may sound impressive, it is important to remember what investors have faced during all these years. It is crucial to recollect historic events like the global financial crisis of 2008, wherein the markets corrected by 52% in a single year. In 2011, the market was down by 25%. The black swan event of Covid 19 that crashed the market in 2020 is relatively fresh in investors’ memories.
While volatility is the norm, what an investor should work towards is utilising market volatility to one’s advantage. Your journey too, as an investor, will not be a linear one. Here are some of the steps that you can take to counter volatility & bolster your portfolio.
Earnings are the lifeblood of any business & what you should be ensuring is that the stocks in your portfolio are showing actively accelerating earnings, both quarterly as well as annual.
As a general rule of thumb, we suggest that you refrain from holding any stocks that don't show earnings per share up by at least 18% or 20% in the most recent quarter versus the same quarter the year before. Many successful investors use 25% or 30% as their minimum earnings parameter. Furthermore, each year's annual earnings per share for the last five years should be showing an increase over the prior year's earnings.
Another reason why acceleration in earnings should be a prominent parameter is that it creates humongous demand for the stock due to the rising interest from various institutional investors, giving a much-needed boost to your stock prices.
Most of the time when the markets have corrected, investors choose to buy stocks with a familiar name, something they have previously seen leading the rallies. However, each bull rally that comes after a volatile period or a correction has a new set of trending stars that are all set to generate tremendous wealth. Each soaring new cycle in the stock market will catapult fresh leadership stocks to the attention of the market. These gems often belong to the top trending industries that are leading the market.
All you have to do to ensure a profitable portfolio is to identify & invest in the top two or three stocks of the trending industry groups while actively avoiding sympathy stocks. You can do this by focusing on the relative price strength. When something in the underlying company is structurally changing, it is always reflected in the price. Your stock portfolio only needs the stocks that are showing significant strength in their price.
Stock market corrections are one of the most opportune times to realign your portfolio by eliminating stocks that are past their best days & by adding potential market leaders. If you own a stock portfolio, then you must learn to sell your worst-performing stocks first and keep your best-acting investments a little longer.
Times are changing at a quickening pace. A corporation with fast-selling, new products today may find its sales slipping soon if it doesn't continue to have important new products coming to market. This is where the quality of the management comes into play. Most of today's inventions and exciting new products and services are created by hungry, innovative, small- and medium-sized young companies with entrepreneurial-type management. As a result, these companies grow much faster and create most of the new jobs. This is exactly the type of stock that you should be holding in your portfolio.
On the other hand, large corporations of the past may experience a lack of imagination from older, more conservative "caretaker managements" that are less willing to innovate, take risks, and keep up with the times. If a large company occasionally creates an important new product, it may still not help the company's stock because the new product will probably account for only a small percentage of its sales and earnings. It could simply be a little drop in a bucket that's just too big.
The whole secret to winning in the stock market is to lose the least amount possible when you're not right. In other words, in order to win you've got to recognize when you may be wrong and sell without hesitation to cut short your loss. This is especially true for the stocks that you buy after they have already been corrected by the market volatility.
But how can you tell when you may be wrong? That's easy. The price of your stock will drop below your purchase price by at least 10%-12%. You may believe that if you sell the stock you will be taking the loss, but selling doesn't give you the loss. You already have it. The longer you wait, the more real it will become. This is also where the predefined selling rules of our rule-based systematic investing strategy like MILARS can help you. It ensures that you cut your losses short & let your winners run.
It’s not unusual to be concerned by periods of market volatility. It can be scary to see large or even small losses on paper. But in the end, you must remember that market volatility is a typical part of investing & the stocks that you invest in are bound to respond. Always view volatility & corrections as an opportunity to realign your portfolio & march on for more profitable & bullish days.