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Investing In 2021 — Keep It Simple
Given the overall economic uncertainty, investors would do well to stick to the basics of asset allocation this year
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Oh, what a year 2020 has been for investors! I doubt if I have witnessed a single year in my entire career which has brought forth so many different behavioural biases in investors all at once. Stock markets began the year at stretched valuations and caved during the early days of the Covid crisis, leaving the FOMO induced equity purchases deep in the red. And then, in the midst of doomsday predictions galore, equities began a tearaway rally that left the fence sitters gasping for air.
In the meantime, gold rallied handsomely, only witnessing a material correction just as retail ETF flows picked up (nothing new here).
The now infamous wind up of a leading AMC’s debt funds became the bugbear of the fixed income investor, as risk averse moneys moved to low yielding fixed deposits instead.
As we move into 2021, investors are understandably flummoxed about the way forward. While I dare not make predictions, here’s my simple and rational analysis of what investors should be doing across the three core portfolio asset classes – equity, debt and gold.
The massive liquidity injections by central banks are keeping both domestic and global stock markets elevated at present, deteriorating fundamentals notwithstanding. The bellwether Nifty’s P/E (price to earnings) ratio has moved up from an already elevated level of 28X at the start of 2020, to a stratospheric 35X as on date.
In a similar vein, the broader S&P 500 now commands a P/E ratio of no less than 37X! While it’s impossible to predict whether we’ll witness a simple retracement or a much deeper cut, what is certain is that the party cannot go on forever. The prudent move at this stage would be to concentrate the core of one’s equity portfolio into dynamic asset allocation funds that adjust their quantum of equity assets “dynamically”, as their name suggests. This would keep portfolio risk in check, while safeguarding investors from their own inevitable behavioural biases in 2021.
Prima facie, risk and uncertainty (the two key drivers of gold prices) appear to have tapered off in light of political stability in the US and hopes surrounding the quick implementation of a vaccine. However, this is not an entirely accurate picture. Regulatory approval, efficacy and safety concerns, and logistics still need to be worked around, so realistically, we won’t be seeing a Covid vaccine hitting the shelves of your local chemist anytime soon!
Also, it would be naïve to believe that a full economic recovery from an exogenous shock of this magnitude will take anything less than half a decade. Given the abundant economic uncertainty, there’s certainly a case for allocating 20 per cent of your portfolio to gold in 2021, especially in light of the recent correction. Be sure to stagger your way into ETFs or Gold Savings Funds over the next three months, though.
2021 will be a “year of settling” for fixed income investors. One should aim to avoid big mistakes, prioritising safety and liquidity (“return of capital”) over high growth (“return on capital”). There are limited opportunities to earn high returns from debt investments, without taking on an inordinate degree of risk.
At current bond yields, markets appear to already be factoring in large scale OMO (Open Market Operations) bond purchases by the RBI. On the other hand, the risk of oversupply looms large, as the government could very well hike its borrowings further.
Abundant liquidity will continue to weigh in on overnight and liquid funds. The best bet right now appears to be in short term debt funds of up to 3-year average maturities, with high credit quality. Buoyant sentiment notwithstanding; the pandemic is still an evolving situation; and fixed income investors should certainly not be in a hurry to rush into credits anytime soon.