EspressoLogy

I have been asked simple yet fundamental questions by new-to-market investors. Here is an attempt to answer them in a simple manner!

Remember how you felt when you entered a new classroom or at your first day in a new job? You may have felt a little lost and intimidated till you made that one friend who gave you the lowdown on how things worked. Well, we are going to be that friend for you today as you take your first steps in the stock market.

The market has been volatile since the outbreak of COVID-19 earlier this year. The crash in March 2020 following the lockdown, and its subsequent recovery, have created an opportunity for many first-time investors to start putting money in stocks.

But investing for the first time can be a bit tricky. So, here are four golden rules that will help you make the most of your investments in the current market.

Risks and returns go hand in hand

Forget new investors, even many seasoned investors fail to grasp this fundamental principle: If you want higher returns, you must be willing to take higher risks. Allow us to explain with a simple cricket analogy.

Think of your favourite T20 slogger. He is looking to hit a four or six off every ball. But he is also running a higher risk of losing his wicket. Now, cut to a batsman who likes to build his innings. He is happy to bide his time and wait for the bad ball to score runs. While this batsman may not get the maximum of every ball, he also has a lower risk of losing his wicket. Key takeaway: understand your risk appetite and temper your return expectations accordingly.

Think long term, not short term

Consider this: If you had invested Rs 10,000 in the markets on Feb 20, 2020, its value on Mar 20, 2020, would have been down to Rs 7,300 thanks to the spread of COVID-19. The markets have since recovered, and your investment would be worth Rs 9,200 today. Stock markets tend to behave unpredictably in the short-term because they react to events. But over the long term, the fundamental qualities and the value of a market or a stock shine through.

That’s why, if you are a new investor, it pays to play the waiting game. For example, if you had invested Rs 10,000 five years ago, its value would now be Rs 13,620, a return of over 36%. Extend it to a 10-year period, and your value rises to Rs 21,119, an over 100% return. Many experts believe that over the long term, equity will outperform other assets, delivering double-digit annual returns.

Make small bets regularly

We just talked about how markets are volatile in the short-term. The best way to counter these short-term ups and downs is by investing small sums regularly instead of investing large amounts at one go. This also eliminates the need for you to time the market.

Let’s say, like in our previous example, you had Rs 10,000 to invest on February 20, 2020. But instead of investing the entire amount, you decide to break it up and invest Rs 2,000 every month. The value of your investment in this case (as of July 30) would be Rs 11,350 (it would have been just Rs 9200 if you had invested the entire amount on Feb 20).

This style of investing has been popularised through Systematic Investment Plans (SIPs) in mutual funds and uses the principle of Rupee Cost Averaging (regular investments in volatile markets tend to lower the average cost of acquisition of a share). It’s a great way to lower risk and invest over the long term!

Spread your risk

It’s a good thing to have different friend groups, either from work, school and or where you live. If one group of friends bails out on you, you can always hang out with another, right? This smart strategy works even when it comes to investing. You don’t want to invest all your money in just one company or industry. You want to spread your risk by picking a few good companies across different sectors. So that, even if one company or industry isn’t doing well, your other investments are working for you.

For example, while most sectors are doing poorly post-COVID, the Pharma industry is having its moment in the sun.

If you look closely, the 4 Golden Rules are interconnected. Returns are linked to risk. To reduce your risk, counter volatility and improve your returns, you must take a long-term view, invest small sums regularly and diversify your portfolio.

All the best in your investing journey!

All calculations are based on Sensex data