Indian stocks are the most expensive now. The stocks are trading at 34% premium to the region according to Citi investment research. Indian stocks are trading at 17.6 times expected earnings compared to a Chinese stocks that trade at 12.7 times expected earnings.
Inflation is the real problem in India. Everything is expensive starting from food to real estate. Companies are not able to pass the higher expenses to the consumer; so their profit margin is shrinking.
It is almost impossible for the Indian stock market to keep going up especially with this kind of valuation. It’s the time to watch your stock holdings and make sure you diversify your investments.
The stock market crashed and media is filled with photos of worried investors looking up at the stock ticker. There are reports of investors committing suicide in wake of the crash. All this makes new investors wary about the stock market and shun it entirely. But this is not advisable as stocks have been shown to beat inflation and give the highest returns.
Now the question that arises is how to benefit from stocks without losing money. Answer – diversification.
Diversification means dividing your total investment corpus across various assets – stocks, bonds, gold and real estate, based on your risk appetite. Now if one of the assets crashes you still have other assets to fall back on. This will prevent your returns from eroding.
This was evident during the recent market crash when the returns from gold exceeded those from the stocks.
However diversification can also mean choosing stocks from across various sectors and market caps. Those who had invested their money stocks of IT and pharma companies did not see a massive erosion in their portfolio as compared to those who had invested in real estate and infrastructure companies.
In summary, there are two things that are important to keep in mind while planning your investments –
However remember no asset is risk-free. Every asset has its own risk. You need to take it into account while diversifying.
Ajit is a young executive working in a middle level management in an MNC. His financial advisor asked him to invest all his money in equities and equity mutual funds, since the market was touching new highs. Ajit did so, only to find that during the recent market crash, he ended up losing his money. Why did this happen? Where did Ajit err?
Ajit made the biggest mistake made by so many investors. They take fancy to a particular asset, either due to security it offers or high returns it generates. In the process, they ignore other asset classes, thus suffering financial loss.
In order to overcome this problem, it is essential to do proper asset allocation. In asset allocation, you diversify your portfolio amongst stocks, bonds, gold and realty. This is done after taking into account your age, income, investment objectives and investment time frames. But the main factor that affects the asset allocation is your risk profile.
Those with a conservative profile should focus around 60-70% of their portfolio on bonds, FDs, realty, cash and gold and the rest in equities. For a balanced investor, the proportion of portfolio that can be divided between equity and other assets can be 50:50. An aggressive investor can have 80-85% exposure to equity.
As you become older and near your retirement age or your liabilities or number of dependents increase, you have to keep on rebalancing your asset allocation in order to take into account the new circumstances. This will help you meet the change in your circumstances very easily. Just don’t be swayed by greed or fear as it can cause financial loss in the long term.
Ajit didn’t go for asset allocation also called as diversification. Hence he suffered massive losses.