Power Point
Busting some myths about timing the market
- Maintain a balanced portfolio, don’t position it to time certain macro events
Imagine an investor, let’s call her, Market Timer, who in 2010 would have been gifted with a divine foresight to predict with absolute certainty the actual macro events that would unfold in the next decade—beginning from the downgrade of the US by S&P in 2011 to the banking and debt crises in various European countries in 2012 to the Taper Tantrum in 2013, Brexit in 2016 followed by Trump’s ascendancy to Presidency, trade war between the two largest economies in 2018 and then the gravest of all crises, covid in 2020. Let it also be known to the investor that there would be major geopolitical events that would play out, including regime changes in the Middle East (a major source of global oil supply), and political crises in many emerging market economies.
While Timer knows about all these developments that would take place during the decade, it is left to her to assess the potential impact of such events on the market as they unfold. It is most likely that Timer could altogether stay out of the market (implies cash call), ‘logically’ believing that the successive string of major macro developments would result in a decade of very poor returns. It is altogether a different matter that post war, the S&P 500 delivered its second-best decadal returns between 2010 and 2020!
Timer’s quandary ties back to the recent discussions which I have had with many investors. The questions are the same— debates on geopolitics, whether one should wait for markets to cool off further before investing, whether Fed rate hikes and runaway inflation could derail the nascent growth recovery, and so on. And I am sure these worries will resurface in every successive decade as well. Macros if anything, in our view, are a source of risk and it is impossible to make money out of such macro events.
To hedge risks from macro events, one should maintain a balanced portfolio and not get swayed by positioning the portfolio to time a particular macro event. One recent example is the performance of sectors post covid. If you were to position a portfolio defensively or sit in cash, you would have missed out on the major bounce-back rally in cyclicals thereafter. A very similar example is the investor sentiment around the IT sector in 2017 when the US tightened visa restrictions. There was scepticism that the Indian IT sector would get disrupted by digital transformation and adoption of the cloud. Staying out of the IT sector post those concerns would have resulted in losing out on the massive returns from some of the stocks, especially in mid-caps. In a similar vein, in 2021 when the IPO market was strong, it would seem to be the best thing to load up the portfolio with consumer tech names, irrespective of the business fundamentals. There are similar examples across sectors across decades and the message is not to chase themes but to stay invested by selecting good stocks through a bottom-up stock selection process. Thus, to ensure that macro risks do not hijack the portfolio, it is important to build a balanced portfolio of both pro-cyclicals and counter cyclicals.
It is also important to not ignore the broader trends. For example, India’s per capita income is rising and globally many consumer products have seen an inflexion around the US$3,000 per capita mark. It could be an important input in stock selection in consumer and retail sectors but in no way should this trend be extrapolated to take a top-down call on the sector.
It is interesting to note that the Nifty’s best performance has come during bear markets. Historically, it is impossible to make money by getting out of the market and coming back in ‘better’ times. The only investor who has made worse returns than taking cash calls is the investor who wants to time the market.
Prateek Pant, chief business officer, WhiteOak Capital Management.
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First Published:1 Jun 2022, 06:11 AM IST
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