Investors should avoid making drastic changes to their asset allocation during a market correction.
The Indian equities market has witnessed high volatility in the wake of the trade war unfolding between the United States and its major partners.
Investors need to stick to the mantras of asset allocation, a long-term investment mindset, and staggered investments to deal with these testing times.
Key risks
The Indian equity market faces multiple risks.
"The key one is the uncertainty created by the recent US tariffs. At the same time, the domestic corporate earnings trajectory is lower than was anticipated a few quarters ago, leading to further nervousness," says Harsha Upadhyaya, president and chief investment officer, Kotak Mutual Fund.
Besides the possibility of a recession induced by a global trade war, Trideep Bhattacharya, president and CEO of equities at Edelweiss Mutual Fund, highlights the sharper-than-anticipated urban consumption slowdown in India.
Experts do not see stability returning to the markets anytime soon, given that the tariff-related situation has not stabilised yet.
"Global equity markets are vacillating between two scenarios: 'tariffs as a negotiation tactic' and a 'full-blown trade war'," says Bhattacharya.
He is of the view that if the latter scenario unfolds, the markets will likely witness a prolonged period of volatility and a deeper correction.
But if the former scenario materialises, volatility could be short-lived and the correction could also be shallow.
While most nations that are major exporters to the US have opted for a negotiations-based approach, China has chosen to retaliate.
"Once both negotiations and retaliations have played out, greater clarity should emerge. Assuming no further escalation, the markets may stabilise within a month, though investors will continue to be cautious until a concrete resolution is in sight," says Sahil Shah, chief investment officer and fund manager, Equirus Asset Management.
Silver linings for Indian investors
Indian investors should draw comfort from a few factors.
Being a largely domestic-focused economy, India may fare better than some of the other export-oriented economies.
India's export dependence on the US market is limited.
"India's exports to the US constitute only about two-three per cent of GDP, insulating it to a large extent from the direct fallout of the tariff war," points out Shah.
"Relatively higher tariffs on some of India's competitors may provide us with some relative advantage in certain categories of exports," adds Upadhyaya.
Bhattacharya points to the meaningful correction in crude oil prices.
Another positive development, according to him, is the pickup in government-led decision making in the fourth quarter of 2024-2025.
"This could possibly lead to earnings rebound in the second half of 2025-2026," he says.
Valuations normalising
Indian market valuations, which were considerably stretched earlier, have now corrected to more reasonable levels.
Shah says that selective opportunities have now become available for long-term investors.
"Large cap valuations are more or less around long-term average valuation levels. There is little valuation risk for long-term investors at this point. However, investors must be prepared for volatility in the near term," says Upadhyaya.
Mid- and small-cap valuations, according to Bhattacharya, are still 10 to 15 per cent above the 10-year average.
Volatility is the norm
A study of the past 45 years suggests that the Sensex witnesses a 10 to 20 per cent annual decline in most years.
"Historical data also suggest that in around 75 per cent of these years, the Sensex still delivers positive returns," says Arun Kumar, head of research, FundsIndia.com.
Sharp, prolonged falls -- like those in 2000, 2008, and the Covid crash of 2020 -- do occur, but they tend to be infrequent.
According to Kumar, the Indian market is not currently in a bubble-like situation, which tends to be followed by a major downturn.
"Valuations are in the neutral zone and may soon enter the attractive zone if the market corrects by another 5 per cent," says Kumar.
"Corporate profits to GDP, return on equity, credit growth, and private capex point to a mid-cycle phase rather than a late-cycle peak.
"While foreign institutional investor flows are negative, domestic institutional investors are actively buying," adds Kumar.
The correction is likely to remain within the 10 to 20 per cent range, says Kumar.
He is also optimistic that if the fall exceeds 20 per cent, the recovery might be sharp.
Stick to asset allocation
Investors should stick to their existing asset allocation across asset classes like equity, debt, and gold.
"If the decline crosses 20 per cent, consider gradually increasing equity exposure by deploying extra savings or reallocating from debt and gold to equities," says Kumar.
Upadhyaya also suggests sticking to time-tested principles like asset allocation, regular and disciplined investment, and a long-term approach to tide over this volatile period in the market.
"Since there is relatively more comfort on large-cap valuations, investors may tilt their portfolios towards large-cap funds within their overall equity allocation," he says.
Mistakes to avoid
Investors should avoid making drastic changes to their asset allocation during a market correction.
"Adjustments, if any, can be made more effectively once the markets recover," says Kumar.
Investors should also avoid the urge to time the market.
They should not exit the market now, believing they will re-enter it once the market recovers.
Investors who are in an all-equity portfolio, neglecting debt and gold, must gradually rectify this.
"For younger investors with a long-term horizon and a high savings-to-portfolio ratio, an all-equity portfolio might be acceptable," says Kumar.
"However, for those with a sizeable corpus, overexposure to equities could be a possible mistake," adds Kumar.
Investors must gradually rectify this issue by deploying incremental money into debt and gold.
Overexposure to sectors or market segments that have performed well recently must also be corrected.
Such areas include defence, public sector undertaking, and small and micro-cap stocks.
Disclaimer: This article is meant for information purposes only. This article and information do not constitute a distribution, an endorsement, an investment advice, an offer to buy or sell or the solicitation of an offer to buy or sell any securities/schemes or any other financial products/investment products mentioned in this article to influence the opinion or behaviour of the investors/recipients.
Any use of the information/any investment and investment related decisions of the investors/recipients are at their sole discretion and risk. Any advice herein is made on a general basis and does not take into account the specific investment objectives of the specific person or group of persons. Opinions expressed herein are subject to change without notice.
Feature Presentation: Ashish Narsale/Rediff.com