Keep a buffer for short-term fluctuations

Personal Finance | Published on 8th March 2019 | 530

October the Nifty lost over 1,000 points from the peak while the actual damage in mid-cap stocks was much sharper. Most long-term plans would have taken a hit too. Should this really trigger a modification in your long-term goals?

    • The long-term plan has some in-built checks and balances that automatically take care of short-term fluctuations. Here is why you must not bother about short-term fluctuations.
    • A large part of long-term allocation will be to equities, remember that equities are designed to almost eliminate negative returns if held beyond eight years. Since goals are for a period of 15-25 years, don’t be overly bothered.
    • Reacting to short-term fluctuations can lead to sub-optimal allocation to assets.For example, a stock, if held over a period of 10-12 years, may be in a position to give attractive returns. But if you exit in between due to fluctuations, then you lose out the opportunity since by the time you re-enter, you may have paid a price.
    • Constantly reacting to fluctuations has a transaction cost. It is not just the opportunity cost of reacting to fluctuations but also the brokerage cost and statutory charges. These can add up to quite a bit if consistently done. Hence, as long as you are convinced about the long-term story, just stay put.
    • When you react to short-term fluctuations and exit at short intervals, then it is classified as short-term capital gains, which has a higher tax rate than long-term capital gains.
    • By constantly changing your goal related investments in response to short-term fluctuations, you are losing out on the power of compounding. Financial goal setting is all about making the power of compounding work in your favour.
    • More often than not, short-term fluctuations are just noise. They could be a reaction to some shifts in inflation, interest rates or currency values. They would hardly make a fundamental difference and hence your long-term goals are unlikely to be impacted.
    • Most long-term goals are based on investments that have empirically given above market returns. For example, if diversified equity funds have outperformed the index by a margin of 3-4% consistently over the last 20 years,then it is very unlikely that over the next 20 years this trend would drastically change.
    • When markets fluctuate in the short term, they offer an opportunity for Systematic Investment Plan (SIP) investors. Most of our long-term goals are based on SIP investments tied to goals. By moving in and out of investments, the entire purpose of the SIP is lost. On the contrary, the SIP approach is designed to give you a lower cost of acquisition in a volatile market.
    • When the financial plan is prepared around your goals, it is advisable to keep a buffer. For example, if inflation is 4%, you must be prepared for 5% inflation. We must assume that equity returns will trend lower or tax benefits will trend lower. Such exigencies are already provided in the plan to take care of short-term fluctuations. There is really no need to tamper with long-term goals for the purpose of short-term volatility.
    • Financial goals are a financial expression of your dreams. You need to provide for your retirement or your daughter’s studies abroad irrespective of where the rupee is at. Build a buffer and just move on.

MANAGE SMARTLY

    • Long-term plan has some in-built checks and balances that automatically take care of short-term fluctuations
    • By moving in and out of investments, the entire purpose of SIP gets lost
    • Reacting to short-term fluctuations can lead to sub-optimal allocation to assets

The Article has been authored by Mr.Rohit Ambosta, Chief Information Officer,Angel Broking & the article appeared on 13th February, 2019 on the following website -www.dnaindia.com