What to do ???
This is the question which is raging in majority of the retail investors mind considering the turmoil in the equity markets. The total number of demat accounts post pandemic surged to 100 million plus from 4 million plus pre pandemic. This surge can be attributed to work from home schedule, thereby allowing considerable screen time to the investor. Lot of knowledge is available on social media platforms like youtube ,twitter etc.
However, the new generation of investors / traders have not experienced sideways or declining markets when the equity curve takes a hit. The concept of risk to reward is often forgotten when the going is good. The equity game is clearly skewed against a retail investor. Consider the following chart –
The mathematical relationship between losses and gains is a reciprocal one.
% gains required to recover loss or breakeven :
((1 / (1 – % loss)] – 1) * 100
= ((1/(1-75%))-1)*100
=300%
| Initial value (Rs.) | Loss % | Value After Loss ( Rs. ) | Gains ( % ) required to restore loss | Final Value After Recovery ( Rs.) |
| 100 | 75 | 25 | 300 | 100 |
| 100 | 50 | 50 | 100 | 100 |
| 100 | 25 | 75 | 33 | 100 |
| 100 | 15 | 85 | 18 | 100 |
| 100 | 10 | 90 | 11 | 100 |
As can be clearly seen, greater the loss, greater the return required to break even. This simple mathematical concept is against retail investor who has limited capital and thus any major drawdown is going to dent the investing journey by a good amount .Not to mention the psychological pressure it brings.
What then is the roadmap available to the retail investor –
- As famous investment guru Peter Lynch has said – “ Although it’s easy to forget some times, a share is not a lottery ticket…it’s part ownership of a business .”Do a thorough research of the business which includes going through the business progress around every business cycle from expansion to contraction.
- Always have a diversified portfolio to keep the correlation among constituent securities as low as possible. Although systematic risk which is the risk pertaining to economy as a whole cannot be diversified but unsystematic risk which is specific to business can be diversified.
- Cut your losses short and let your winners run.
- Don’t follow the crowd as it is mostly wrong at the extremes.
- Have a clear thought out plan of investing in securities and above all as legendry investor Warren Buffet has said – Invest in what you know.
- Seek advise from experts and follow the plan.
The idea of putting risk before reward should be the sole aim of retail investor. Before implementing any investing strategy, do the home work of how the strategy has performed across business cycle. The simple strategy of buy and hold can perform wonders, if the portfolio is adequately diversified and the quality of underlying businesses is supreme. Analyze any strategy with the intent of how much can one loose and whether that quantum of loss will not throw one out of investing journey.
Heads I win and tails I don’t loose much completely summarizes the risk : reward concept and expected behavior from retail investor towards ensuring that the same is not compromised with.
Happy Investing.
