Having an investment plan saves you from random reactions and blind panic
13-Apr-2023 •Dhirendra Kumar
Investors who do not have a plan tend to panic when something unexpected happens. Sometimes the panic is real. Other times it's induced deliberately. Recently, many mutual fund investors faced an induced panic. Some succumbed, and others did not. If the panic mostly passed you by, consider yourself lucky. However, in all likelihood, luck had nothing to do with it - you, as an investor - know what you're doing. Congratulations. Others, who panic, should examine why they did so.
The root cause was nothing much, a taxation change in some mutual fund categories. Numerically, investors who were most affected were those who generally hold debt fund investments for three years or more. Since debt funds are generally for short-term use, this should not have been that big a deal. However, those who sell funds were able to convince many investors that they must invest in the four to five days that were there between the tax changes being revealed and April 1, when they came into effect. In the debt fund categories, an estimated inflow of Rs 39,325 crore occurred within the five-day period from March 27 to March 31. Comparatively, the earlier portion of the month saw a substantially smaller inflow of just Rs 4,430 crore. At Value Research, we derived these figures by examining the daily AUM data and the NAVs of the funds.
Why did this herd mentality take hold? Think about it. In reality, if investing in these funds was not already part of your plan, there was little to gain by doing so at that time. So why did investors panic? The answer is simple. They were the ones who did not have a plan. It was a panic reaction, even an emotional one. Investors who lack a well-defined investment strategy are often more susceptible to emotional decision-making when faced with unforeseen market events. This lack of forethought leads to panic, causing them to make impulsive choices that are likely to result in suboptimal outcomes.
An investment plan's less appreciated function is to act as a psychological anchor. A plan is crucial in order to navigate inevitable market fluctuations and regulatory changes to maintain a level head. It gives you clear objectives, risk tolerance levels and time horizons. Effectively, it helps mitigate the impact of unexpected events and keeps you focused on the real goals. In essence, having a plan in place serves as an anchor to help investors weather the storms of market volatility and avoid falling victim to fear-driven reactions like these tax changes.
Investing, especially mutual fund investing, is well-suited to be a straightforward, low-maintenance investment method. However, you need to know where you started, your goals, and what it will take to get you there. When some sector or some type of fund starts doing better or worse, investors tend to rush in or out in panic. Often, this leads to chasing whatever was doing relatively well in the past and, almost by definition, will do relatively less well in the future. The antidote to this is not to make better guesses but to already plan where you want to invest.
Taxation changes are a specialised source of panic. Obviously, they actually do not form a part of anyone's financial plan since no one knows what is coming. The current change was relatively low-impact, but there could be a bigger change that does require a change in your investment plan. However, even then, having a plan is indispensable. That's because if you have a plan, then you have done planning. Confused?
"In preparing for battle, I have always found that plans are useless, but planning is indispensable." That's a well-known quote from General Eisenhower, who was the commander of allied forces in Europe in WW2 and, later, President of the US. It's one of those ideas that would hardly ever occur to anyone, but once you come across it, it's instantly recognisable as deeply truthful and equally valuable. Your plan will definitely need changes at some point, but the planning will always be useful.
Suggested read: Is the debt fund tax a big deal?