The low point of common sense in investing | Value Research Investing when the market crashes seems to be the safe and sensible thing to do. It's not
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The low point of common sense in investing

Investing when the market crashes seems to be the safe and sensible thing to do. It's not

Investors learn early that 'Buy low, sell high', is the basic mantra of success at all investments. Here's an old Wall Street joke that would have been a PJ if it didn't ring so true. A newbie asks an old-timer, "How do you make money in the market." The wise man answers, "Nothing could be simpler: buy low, sell high." The beginner asks, "How can I learn to do that?" Comes the response, "Ahhhh...that takes a lifetime."

Unfortunately, the most common interpretation of this idea of buying low and selling high is to buy whenever stocks drop and vice versa. As a result of the recent turmoil in the markets, there seems to be a sudden, enormous interest in buying low. Beginner investors want to do it, experienced fund managers want to do it, and everyone seems to be asking around whether it's the right time to do it.

Meanwhile, there are larger forces at work too. After two decades of relentless globalisation of investment flows, every investor is acutely aware of the connectedness of all markets in the world. That everyone around the world lost a lot of money because there are problems in China is an easily acceptable notion. Meanwhile, the central bankers of the world have gathered at a resort in an area of breathtaking natural beauty called Jackson Hole in the state of Wyoming in the United States. However, no matter how important traders feel last week's crash was, the big shots are not discussing the stock markets in Jackson Hole. Instead, the topic is 'Inflation Dynamics and Monetary Policy'. In other words, the apparent breakdown of the simple connection between monetary policy and inflation.

Of course, RBI Governor Raghuram Rajan was there, and as is now almost customary at places where central bankers meet, he complained about how rich countries' monetary policy had distorted asset prices around the world. Rajan issued a clearer warning than he normally does that asset prices around the world were 'not correct', implying that they were due for a correction. I'm sure that doesn't sound like great news to those holding assets of all sorts. Buy low, sell high doesn't work so well unless you can anticipate whether what you think is low is actually low, or merely a little less high.

It seems so logical, and so sensible, to buy stocks or invest in equity mutual funds when markets fall. After all, if it's a bad idea to buy when the markets are zooming up, then the opposite--to buy when the markets are diving low--must be a good idea. Superficially, it seems to make sense. During bull markets, the sensible advice is to not invest because stock prices are already high, so when there's a sharp dip in stock prices, the sensible advice must be to buy, right?

Actually, it's not. The right thing to do is to never buy according to where you (or others) believe the market is heading. Investors need to invest according to the quality of an investment, and whether it is fairly priced according to its intrinsic characteristics, and not by guessing its future momentum. As more than a century of experience has shown, timing markets is no better than acting randomly. This is even more true in the kind of knee jerk volatility that has become common in recent years.

For mutual fund investors, it is even easier. They should choose three or four equity funds with good long-term track records and invest steadily through SIPs, and not bother with market crashes. The whole point of investing in a mutual fund, either through an SIP or otherwise, is to continue doing so in bad times.

News from China matters, but rather less than you might believe. Eventually, the only thing that will make a difference is the state of the local economy. In a growing economy, it is always a buying opportunity. No matter what happens, an uninterrupted, systematic investment strategy is the right one and will remain so for the foreseeable future.


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