As you watch CNBC or read any business newspaper almost every commentator will be telling you about the highs the market keeps on scaling and the party seems to never end. Below graph captures the one-year secular upward trend of stock markets in India
So if you are thinking of entering the market and joining the party how do you go about doing it. Are you worried party may end soon and you will be stuck with a costly investment? In this
In this post, I will try to address this question This post I look at some data and try to build a model to see if we can understand the impact of investing in very high markets or at the top of a bull run or just before the crash.
In this post, I look at some data and try to build a model to see if we can understand the impact of investing in very high markets or at the top of a bull run or just before the crash.
Here is the broad process I will follow
- Defining what is high for market based on historical data
- Using P/E data to create a market heat map over a long time horizon
- Testing out how your investments performed in over heated market in past
- Understanding the impact of Lump sun and SIP investments.
TL/DR For Lazy bums
- Look for market P/E multiples to understand the state of market.
- Entering into mutual funds as markets are high can have a material impact to your investments
- Impact is multiplied if you make one time lumpsum investments at the top of market cycle
- Depending on market conditions it can take upto 3 years to recover such one time investments
- SIP can be an effective way to derisk yourself from such investments
- If you have lot of money to deploy use STP.
For complete analysis and the approach I followed keep reading
To understand how entering into equity mutual funds when markets are high , Let us try to define what does high market mean first .
While absolute value of Nifty or BSE is what you keep on hearing all the time on newspapaers and TV , In terms of understanding relative position of the market absolute values do not matter much. What matter is what is the earnings multiple currently the market is trading at popularly captured by a metric called P/E ( Price to earnings). Which essentially captures the multiple we are paying for the market for
So here is what I did , I plotted P/E Multiple for Nifty 50 which forms the main Nifty 50 Index . I also plotted Heatmap for Nifty 500 ( which basically captures 95% of market cap on NSE and hence a good reflection of NSE as a whole .
- Market are trading at all time high P/E
- In general markets have drifted and sustained higher P/E levels in recent times
- NIFTY 50 saw similar P/E levels way back in 2010.
So clearly from P/E multiples markets are definitely over heated.
To understand further what can happen to your investments, I tried to understand what happened to your investments if you had invested back in 2010 when markets were similarly hot. I picked up 2 Funds SBI Bluechip and Mirae asset emerging bluechip to understand what happened If you invested Rs 1 lac in October 2010. Below are the results
So if you had invested a lump sum in SBI Bluechip Mutual fund your 3-year return will be about 2 % but after 4 years your annual average return will be 10.4 % and after 5 years your annual return will be 12.10 %. So making lump sum investments at the top of the market cycle can impact your returns in a big way. Let us now see what happens if you started investing in SIP in the Bluechip Mutual fund. Below are the returns for a similar period if you started investing in a Rs 10000 SIP in SBI Bluechip mutual fund in October 2010.
Quite obvious from the data above that SIPs help you de-risk your investments and provides superior returns if you are entering at market highs.