Anyone who has watched Sensex Today Live on a volatile afternoon knows how quickly confidence can wobble. A portfolio that looked healthy at breakfast can appear damaged by dinner, and the natural response is anxiety. Observers who also follow the DAX in broader financial coverage often see similar turbulence elsewhere, which reinforces a useful truth: swings are a normal feature of equity investing. The real question is not how to avoid volatility but how to build a portfolio that can withstand it comfortably.
Start With Asset Allocation
The kind of assets you own is more important than the specific stocks in it. A good portfolio has equity for growth, debt for stability, gold to hedge against uncertainties and cash for flexibility. A young investor with a long time horizon may have a higher allocation to equity as compared to someone nearing retirement. Revisit your allocation once a year and restore the desired mix in case the markets have skewed it too much.
Diversifying Beyond Obvious
Having 10 stocks from the same sector does not constitute a diversified portfolio. Diversify across sectors and sizes of the companies. While large-cap stocks offer stability, mid- and small-cap ones offer higher growth, albeit with higher risks. Mutual funds and index funds are good ways to diversify. Systematic investment plans in mutual funds also take care of the periodic top-ups to your portfolio. Additionally, allocating some money to fixed deposits and government securities or even gold coins or bonds offers further diversification benefits.
Power of systematic investing
These days, mutual funds offer systematic investment plans wherein you can park a fixed amount every month in a chosen scheme. It takes the guesswork out of investing as the SIPs take care of the volatility by averaging out your cost price. Though it may be tempting to pause the SIPs during bearish markets, remember that these are the best times to be buying.
Maintain a Safety Net Outside the Markets
The first step towards building a foolproof portfolio is to have foolproof personal finance planning. Maintain an emergency fund that can tide you over for 6-12 months. Park this in a liquid savings account or liquid funds. Make sure that you have adequate health and life insurance cover so that an unfortunate eventuality does not force you to sell off investments at an inappropriate time.
Periodic Rebalancing is Crucial
As time goes by, the value of different asset classes in your portfolio will change. You need to periodically rebalance your portfolio to reduce unsystematic risks and bring the allocation back to the risk profile as specified while creating the portfolio. It is important to rebalance even if it means selling off the winning stocks and booking profits. This way you also enforce the age-old wisdom of buying low and selling high.
Avoid Getting Behaviourally Inconsistent
It is not unusual to get emotionally involved with investments and take unsound decisions. To a large extent, these can be avoided by not tracking the valuations too closely and not getting influenced by every hot tip overheard at work. It helps to have a written record of the rationale behind every investment decision. Going by this written record is a good way to ensure that the decision to offload any stock is not impulsive.
Conclusion
A foolproof portfolio is a combination of good allocation to different asset classes, diversification within each asset class, systematic investing to average out valuations, an adequate safety net and periodic rebalancing to minimise risks. It goes without saying that none of these aspects requires any special skills or insight. If these are taken care of, most of the day-to-day volatility can be insulated against.
