Here’s a plan for a conservative investor who aims to earn a regular income/pension from his investments in mutual funds and expects a return that is better than what bank fixed deposits offer him at this point.
- The Indian equity market is expensive on today’s date. The current PE (price to earnings, one of those markers that show how expensive the market is) of the NIFTY is near 22 against a historical average of 18. See here.
- Hence, it won’t be wise for our conservative investor to invest a lump sum in an Equity Fund (that invests almost 100% in equities) or even a Balanced Fund (with at least 65% in equities) right now.
- Among the Debt Funds, the Short Term Debt Funds are the most stable (longer term bond funds are more volatile) although they won’t give you the highest returns in the long term. Still the short-term funds are much better than bank fixed deposits with an average annual return of about 9% per annum. See here.
- There is little difference between the Liquid Funds and the Short Term Debt funds in their risk profile. The short-term funds invest in slightly longer duration papers and some of these may have an exit load (deduct a small percentage) if you withdraw money within 15/30 days of your investment. But the short-term funds would give you an additional 1 to 1.5 percent return compared to the liquid funds.
- I would recommend an investment of 80 to 90 per cent of your corpus in two or three short-term debt funds (select the 4/5 star rated funds from the above list and while selecting please check the expense ratios of the funds (the lower the better). Opt for the Growth option and after one month initiate an SWP (systematic withdrawal plan) so you withdraw 7.5-8% (what an FD would offer you) of your investment in that fund every month or every quarter. At the present rate your initial investment should still grow!
- Keep the rest (10-20%) of your corpus in another short term debt fund and wait for the market to fall. At opportune moments, when the PE has come down substantially (20 or lower), switch some portion of this investment to a Multi-Cap Equity Fund. See here. These funds invest in all kinds of companies: big, medium and small, their world is not limited to any specific sectors and, as such, they are the most diversified. You can stagger this investment, doing it in several tranches to get the benefit of market volatility. The general principle is you should increase the amount you switch with each fall.
If the market never falls, your money is still safe in your fund and you can keep it and use it as an emergency corpus at any point of time.
[Disclaimer: What is suggested above is by way of guidance only. I am not a financial adviser and I am not asking anyone to follow this guidance. I had to write this short note for a friend and am uploading it here with the hope that it may help a few thers too. Readers should make investments only after proper assessment of their risk profile and at their own risk.]
‘Is it a good time to invest in the stock market?’ If you are an investor in the Indian equity market and either put money directly into equities or through a mutual fund, you’ll have to answer this question often for yourself of for your friends and relatives. Is there any single piece of statistics that can tell you how expensive or cheap the market is at any specific point in time?
For Indian investors, the easiest way to find out if it is a good time to invest is to compare the index level of either the Sensex or the Nifty to the earnings of all the index companies. This shows an investor how much he is paying for every rupee of earnings. This valuation metric is captured by the stock market Price to Earnings Ratio or PE and serves as an objective measure of how expensive or cheap the market is at any given point of time.
Morningstar’s Guide to Winning in the Market
In the context of the Indian equity market, it has been observed historically that investments made when the Sensex PE is relatively low earned better returns while those made when the market valuation is high either earned meagre returns or ran into losses. By simply buying more of an index fund or a diversified equity mutual fund when the market valuation is low will thus help any layman investor to do well in the equity market. If there is a need to invest a certain amount of money at regular intervals, it is better to invest more in equities when the PE is low and more in debt when the PE is high. This is a far better strategy of investing in the equity markets than mechanically select a Systematic Investment Plan (SIP).
It is the dream of every investor in the stock market to buy low and sell high. One of the ways of doing that is to time your entry and exit based on the market valuation. The chart below would give you an idea of how the Sensex PE determined the returns investors received in the last 20 years.
Source: The Economic Times
It is evident from the chart that your chances of earning a positive return from the equity market are much higher if you invest when the PE ratio is 18 or below. At the same time your chances of making losses as compared to other more secure investments like debt mutual funds or bank fixed deposits go up if you invest when the market PE ratio is 20 or more. It is not a very difficult task for an ordinary investor to keep track of the Sensex PE and invest accordingly either in equities or debt and perhaps to rebalance when the market goes way up or down.
Don’t know where to find the Price to Earnings (PE) ratio of the Sensex or the Nifty? These can easily be tracked on the websites of the National Stock Exchange (NSE) or the Bombay Stock Exchange (BSE). Or else please follow the links below:
Nifty 50 as on date
Sensex as on date
You can also use IDFC Mutual Fund’s PE Ratio Scale to have an idea as to whether the Indian equity market is cheaply or expensively-priced and decide on whether you should put more money into equities at any given point of time.