Skip to main content

How to time the stock market?



There are several techniques to time the entry and exits. Let us discuss the broader parameters here and leave the complex ones for forthcoming issues.

For passive investors:

For investors unable to track the markets regularly, the best way to time the market is through what is called automatic rebalancing--having a proper asset allocation and sticking to it by rebalancing the portfolio regularly. Let us say you started investing in the beginning of 2008 with a 50% exposure in equity and 50% in debt. By the end of 2008, the equity portion fell by 50% (ie gone down from 50 to 25, while the debt has generated a return of 8% (ie gone up from 50 to 54), tilting your asset allocation in favour of debt. That warrants a rebalancing (i.e., moving back 15% from debt to equity). Likewise, the stock market rally in 2009 and 2010 made certain that your equity portion went past the 50% mark, necessitating a partial profit-booking and diverting it to debt.


   Tweak the asset allocation depending on market valuation. The equity portions of the portfolio can be modified a little based on the overall market valuations. When following this strategy, the equity component of the portfolio will be defined as a range (say, 40%- 60%) instead of a specific percentage (50%). In the above example, the equity component can be increased to 60% if the Sensex P/E drops much below the historical average and is brought down to 40% if it goes much beyond the historical average. (See box on PE as investing signal)


For active investors:

Active investors who track the market regular can be classified into two types—those who believe in fundamentals of a stock and those who also look at the technical factors. Should fundamental investors ignore all market fluctuations? "No," says Warren Buffett, the legendary value investor. "Look at market fluctuations as your friend rather than your enemy; profit from market's folly rather than participate in it," he says.


   The investment decision has to be directly linked to the valuation of stock (if you are investing in one stock) or valuation of the broader market (if you happen to have a diversified portfolio). The strategy is simple—make sure that the value you get is much more than the price you pay. There are several methods to arrive at the value of a stock such as the earning discount model, dividend discount model and discounted cash flow (DCF).


   Investors also must compare the valuation of stocks by comparative valuation tools such as price-to-earnings ratio (P/E), price-to-book ratio (P/B), dividend yield, P/E-to-growth ratio (PEG), etc. We will explain these in forthcoming issues.


   The decisions to be either 'in' or 'out' of the market themselves centre on timing, investors should take a call about the broader market valuation here. If you are a high risk-taker and ready to be in/out of the market for a reasonable period, you can use market valuations to balance your equity portfolio. The strategy here is to totally exit the market if valuations reach unsustainable levels.


   How to arrive at broader market valuations? The best strategy is to calculate the forward P/E (i.e., value of the broader market index like Sensex by its estimated forward earnings). As a retail investor, it will be a difficult task.


   Several brokerage houses and wealth managers offer this service and use their own assessment about market valuations to arrive at the required asset allocation. If you are doing it yourself, you can use the Sensex trailing P/E, which is calculated and is available in most financial papers and websites.


   As is clear from the Sensex P/E box, the Sensex trailing P/E was moving in the range of 12 to 28 in the past 15 years. It can also be seen that the market went into a deeper correction once the valuation crossed the 28 mark — the same can be used as an exit point.


   For 'technical' investors, technical analysis is a useful tool to time entry and exit. Since prices may move up or down 15% to 20% due to technical factors alone (i.e., without any change in fundamentals), use of technical analysis to decide the exact entry is useful.


   Technical analysis is based on a historical study of market data like price, volume and market breadth. The most widely-used tools for selecting the entry timings are moving average crossover (i.e., price going above a rising moving average or short-term moving average going above long-term moving average), price going above a falling trend line, prices bouncing back from a support, patterns like double bottom (i.e., prices coming to a specific level twice with a reasonable time gap in between), inverted head and shoulders (the pattern looks like a man standing on his head), rounding bottom (like a saucer). The opposite action will result in timing the exit.

Popular posts from this blog

Tata Mutual Fund

Being a part of the Tata group, the fund has the backing of a very trusted brand name with strong retail connect. While the current CEO has done an excellent job in leveraging the Tata brand name to AMC's advantage, it is ironic that this was just not capitalised on at the start. Incorporated in 1995, Tata Mutual Fund remained an 'also-ran' fund house for around eight years. Till March 2003, it had a little over Rs 1,000 crore in assets and 19 AMCs were ahead of it. But soon after that the equation changed. It was the fastest growing fund house in 2004 and 2005. During these two years, it aggressively launched six equity funds, two debt funds and one MIP. The fund house as of now stands at No. 8 in terms of asset size. This fund house has a lot to offer by way of choice. And, it also has a number of well performing schemes. Tata Pure Equity, Tata Equity PE and Tata Infrastructure are all good funds. It also has quite a few good debt funds. The funds of Tata AMC are known to...

UTI Mutual Fund

Even though only a few of UTI’s funds are great performers, this public sector fund house has many advantages that its rivals do not. It has a huge base of retail equity investors and a vast distribution network. As a business, it looks stronger than ever, especially in the aftermath of credit crunch. UTI is, by a large margin, the most profitable fund company in the country. This is not surprising, since managing equity funds is more profitable than debt. Its conservative approach and stable parentage is likely to make it look more attractive to investors in times to come. UTI’s big problem is the dragging performance that many of its equity funds suffer from. In recent times, the management has made a concerted effort to improve performance. However, these moves have coincided with a disastrous phase in the stock markets and that has made it impossible to judge whether the overhaul will eventually be a success. UTI’s top performers are a few index funds, some hybrid funds and its inf...

Salary planning Article

1. The salary (basic + DA) should be low. The rest should come by way of such allowances on which the employer pays FBT and you don't pay any tax thereon. 2. Interest paid on housing loan is deductible u/s 24 up to Rs 1.5 lakh (Rs 150,000) on self-occupied property and without any limit on a commercial or rented house. 3. The repayment of housing loan from specified sources is also deductible irrespective of whether the house is self-occupied or given on rent within the overall ceiling of Rs 1 lakh of Sec. 80C. 4. Where the accommodation provided to the employee is taken on lease by the employer, the perk value is the actual amount of lease rental or 20 per cent of the salary, whichever is lower. Understandably, if the house belongs to a family member who is at a low or nil tax zone the family benefits. Yes, the maximum benefit accrues when the rent is over 20 per cent of the salary. 5. A chauffeur driven motor car provided by the employer has no perk value. True, the company would...

8 Investing Strategy

The stock market ‘meltdown’ witnessed since the start of 2005 (notwithstanding the recent marginal recovery) has once again brought to the forefront an inherent weakness existent in our markets. This is the fact that FIIs, indisputably and almost entirely, dominate the Indian stock market sentiments and consequently the market movements. In this article, we make an attempt to list down a few points that would aid an investor in mitigating the risks and curtailing the losses during times of volatility as large investors (read FIIs) enter and exit stocks. Read on Manage greed/fear: This is an important point, which every investor must keep in mind owing to its great influencing ability in equity investment decisions. This point simply means that in a bull run - control the greed factor, which could entice you, the investor, to compromise with your investment principles. By this we mean that while an investor could get lured into investing in penny and small-cap stocks owing to their eye-...

Debt Funds - Check The Expiry Date

This time we give you an insight into something that most debt fund investors would be unaware of, the Average Portfolio Maturity. As we all know, debt funds invest in bonds and securities. These instruments mature over a certain period of time, which is called maturity. The maturity is the length of time till the principal amount is returned to the security-holder or bond-holder. A debt fund invests in a number of such instruments and each of these instruments would be having different maturity times. Hence, the fund calculates a weighted average maturity, which would give a fair idea of the fund's maturity period. For example, if a fund owns three bonds of 2-year (Rs 30,000), 3-year (Rs 10,000) and 5-year (Rs 20,000) maturities, its weighted average maturity would be 3.17 years. What is the big deal about average maturity then, you may ask. Well, knowing a fund's average maturity is important because it tells you how sensitive a fund is to the change in interest rates. It is ...
Related Posts Plugin for WordPress, Blogger...
Invest in Tax Saving Mutual Funds Download Any Applications
Transact Mutual Funds Online Invest Online
Buy Gold Mutual Funds Invest Now