How to sleep easy during this volatile market

Many of us love watching the occasional masala movie at the theatre, for they pack comedy, action, romance and tragedy within a three-hour runtime. But in real life, most of us would rather swear off such wild swings in emotions, particularly when it involves their money.

So, if the current volatility in the equity market is jangling your nerves, we have a solution: diversification.

Instead of going all-in into equity, you can consider a few asset classes that can provide better balance to your overall portfolio.

The reliable asset classes to be a part of your investments are:

• International equities
  
• Debt
  
• Gold

Combining these investment avenues with your domestic equity portfolio can significantly reduce downside risk.

International equities

Investing in international equities can be a smart way to diversify your portfolio. While some markets like the S&P 500 move like the broad based Indian markets, they still offer some unique benefits like currency diversification and exposure to sectors that have a lower presence in India.

However, there are some challenges to consider. Due to RBI restrictions, only a few funds currently allow investments in foreign equities .

It's also important to keep in mind that international equities also face volatility. While they help diversify risks, they may not completely shield your portfolio from market ups and downs.

Debt allocation

Debt investments are like a calming cup of chai in a storm.

An analysis of the 10 worst monthly corrections of the BSE 500 (from February 2013 to November 2024) reveals that stock markets fell by an average of 8.36 per cent, whereas short-duration debt funds managed to deliver a modest positive return of 0.68 per cent.

Clearly, these debt funds serve as an effective cushion during market downturns.

Gold

We at Value Research have traditionally advised against heavy investments in gold, as it is an unproductive asset class, and equities offer significantly higher return potential over the long term. However, gold has proven its value during market crashes. With a correlation of -0.44 to the BSE 500, it acts as a protective shield, helping safeguard investors' wealth in turbulent times.

In fact, during the 10 biggest monthly crashes of the BSE 500, gold outperformed equities by an average of 18 per cent, underlining its resilience as a portfolio stabiliser.

For those considering gold investments, Sovereign Gold Bonds (SGBs) remain the best option . They not only offer tax-free returns (if held to maturity) but also provide additional interest income, making them a smarter alternative to physical gold or gold ETFs.

That said, since the government has not issued any new SGBs recently, the only option is to purchase them from the secondary market.

Is diversification an effective strategy?

To demonstrate the power of diversification, we analysed four portfolio scenarios during the 10 worst monthly falls of the BSE 500 TRI.

The results showed that as we diversified further, the protection against market crashes improved.

Check the four scenarios below:

Final verdict

Diversifying your portfolio isn't just about maximising returns; it's about building resilience. So, if you are unable to withstand the wild market swings, we suggest you consider adding these three asset classes to your portfolio.

Also read: These 3 flexi-cap funds have not cracked under pressure

This article was originally published on December 05, 2024.