What to Do with Your Mutual Fund Investments when the Market Corrects Itself?
As an average retail investor, you may not be able to time the markets because it requires plenty of research and continuous tracking of the conditions. Therefore, it is common that you may end up acquiring more mutual fund units during a bull market phase and under-invest during a bear run.
Before knowing how to prepare for a stock market correction, let us first know what is a market correction.
What is a market correction?
A correction is a reverse movement of at least 10% in the stock market index. These are often temporary declines that interrupt upward market movements. A correction is generally short-lived in comparison to a bear market or recession but it may also be a precursor to these trends.
What is the frequency with which market corrections occur?
Market corrections are relatively frequent and a 10% decline in prices occurs about once in a year. Furthermore, such corrections are short-term and last for about four to five months. Several experts consider corrections as an opportunity to prevent irrational exuberance during the short-term.
How to prepare for a stock market correction?
Market corrections cannot be avoided. They are bound to happen with varying frequency. But that doesn’t mean they can’t be tackled.
You may easily protect yourself from a market correction by choosing to start a Systematic Investment Plan (SIP). This saves you from taking the efforts to try to time the market correctly. SIPs are the best ways to invest in mutual funds. When you have an SIP, you do not have to constantly worry about market volatility.
Even if you are a seasoned investor, opting for the SIP route is advantageous. You must use these as your primary mode to invest in mutual funds. Lump sum investments may be done only during market corrections when the valuations are attractive.
In an SIP, you invest a particular amount in your chosen fund at a predetermined date. The effect of any correction is minimal on your mutual fund SIP. This is because when the prices decline during a correction, you are able to accumulate a higher number of units. Similarly, when prices rise, you acquire a lesser number of mutual funds. Therefore, you are able to enjoy rupee cost averaging effectively reducing your actual cost of investment.
Here are five other advantages of an SIP:
1. Financial discipline
To achieve your long-term financial objectives such as building a retirement corpus, funding your children’s education, or their wedding requires financial discipline. An SIP ensures you develop a regular savings habit, which helps you achieve your long-term financial goals.
2. No liquidity crunches
A major advantage of an SIP is that it does not result in any financial difficulties. You may invest as low as INR 500 in your chosen fund when you start an SIP. Therefore, you are able to save even if you do not have larger amounts to invest in mutual funds. Additionally, you may invest smaller amounts in multiple SIPs to diversify your investment portfolio and reduce your risk exposure.
You may start a mutual fund SIP using an Electronic Clearing System (ECS) through your bank. Under this facility, the SIP amount is automatically debited from your bank account on your chosen date. The SIP may be weekly, monthly, quarterly, or annually as per your comfort and convenience. Additionally, there is no minimum period for which you must continue your SIP. You may start or discontinue the SIP as per your personal requirement. You may also increase or decrease the investment amount based on your financial situation.
4. Compounding effect
SIP offers the benefit of the compounding effect that is able to deliver inflation-beating returns. With the power of compounding, you are able to achieve exponential growth over the longer period. In simple terms, compounding effect is whereby your interest earns further income through reinvestments. Therefore, the principal amount and interest accumulates over the longer term and helps you build significant wealth.
5. Tax benefits
There are certain types of mutual funds such as the Equity-Linked Savings Schemes (ELSS) that offer tax benefits. The principal invested in an ELSS plan is exempt from tax as per Section 80C of the Income Tax Act up to a maximum amount of INR 1.5 lakh per year. In addition, the dividends and maturity benefits earned on these ELSS plans are tax-free.
SIP has several benefits even when the market is under correction or volatile. When you invest money in a disciplined manner for a certain period, the price fluctuations are averaged. This ensures you do not have to time the market.
Even when you use the SIP route to invest in mutual funds, you need to research and evaluate the different options. The technology-driven ARQ investment engine in the Angel Bee mobile application does this for you. It uses advanced quants and algorithms to analyze your risk appetite and investment goals to deliver machine-based investment recommendations.
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