I am sure you must be hearing and seeing lot of action on Global and Indian Stock markets, Currency valuations and trade war between China and USA.
The next few months for all of us is going to be very challenging given the fact that there is lot of action on various accounts across the globe.
Hence it is important to understand, what is happening around and how will it impact our investment journey.
So, Let’s begin to understand what is happening in USA currently and how it is impacting India and markets across the globe.
Though the below few paragraphs sound technical, do try to sail through them as it gives understanding about the current situation and why is it happening.
In the year 2008, when global recession started, the US Central bank, known as the Federal Reserve Bank (like Reserve Bank of India) took a measure to revive the economy by way of providing liquidity to their Banking system. When I say liquidity, it means, they printed US Dollars, used it to buy bonds from their Banks and given them the Dollars so printed to be used for normal banking transactions. How can they print Dollars? Central Bankers are legally allowed to print their currency. RBI does it for us. Me and You cannot print the currency, we have to earn it. Anyways this measure of supplying the money into the banking system and flooding the economies with liquidity is called Quantitative Easing (QE).
What happens when a central bank supplies currency (Increases liquidity) in the economy? The interest rate falls, because there will be more money to lend. And when interest rates falls, consumption revives. But it does not happen overnight. It takes time and a good amount of money goes into buying cheaper assets – in the same economy as well as in the other economies. Remember, Whenever a large amount of money chases any Asset class, it inflates. So markets across the globe revived and went up with this massive liquidity.
The QE lasted for almost eight years and in this process, US Federal Reserve supplied close to $ 4 Trillions worth of currency. Its holding of Treasuries and Bonds went up from approximately $600 bn to $4.5 tn.
After doing this massive flooding of Liquidity, by end of year 2013, the Federal reserve built enough confidence on the state of their economy and they announced that they will pull back the money so supplied, has started pulling back the money so supplied. How do they do it? Just adopting the reverse trade of QE – Sell the Bonds and take the money back. This is exactly how me and you take out our money from the Equity and Bond markets. In the economic parlance, this act of the central bank is known as Quantitative Tightening (QT). The QT will have its consequences. Following are few of them :
- As you reduce the availability of money, the interest rates start going up. This has already started in US and witnessed in the other developed countries.
- As interest rates are now higher in US, for most of foreign institutional investors (FII), US becomes more attractive to invest rather than emerging markets like India. Hence, a lot of money which had been invested into the emerging markets, will start going back.
It means the equities, bonds have to be sold off from various markets across the globe and money so generated will be then invested in USA. This is one of the reasons for drop in Indian Stock market currently. When USD Strengthen, the local currency falls. This is what we are witnessing in India as well. USD has now strengthened to INR 69 now. This means, that our oil import bill goes up, which will push inflation in our country and eventually interest rates. Same pressure is witnessed in almost all the emerging markets. We have no choice but to bear this pain for the time to come.
It is important to note that the central bankers (likes of RBI) are aware of this painful phase and they try to take enough measures to reduce it. But can they eliminate it? I don’t think so. So we are the party of the pain so inflicted by way of reduced liquidity and its impact will gradually go off by way of various measures RBI and Government will take.
So first such announcement of QT came in mid 2013 by the Federal Chairman that they will end the QE. After this announcement, in 2014 QT started.
A mere announcement had created ripples across emerging markets then. Bonds across the globe got sold off, Equity market fell and Emerging market currency fell too. Remember the Rupee fall against USD to 68/USD in 2013? It was because of that. Now they will do this sell off more aggressively this year.
If you notice every country’s Central Bank is watchful of the situation, so is RBI. And hence, If in this process, any major negativity erupts, they will take enough measure to control it. It may mean a small QE as well.
So in the nutshell, the journey which had started as QE is now beginning to end with QT. This is leading to selloff and it will remain so for some time to come. Adding to this pressure, intense talk of trade war between USA & China, Restrictions on Oil imports from Iran also resulting into markets reacting negatively. (Will cover more on this in next blog)
So, what are we supposed to do with our investments now?
I have seen in last two decades or so is, that almost, in every six months or so, we will have a new worry cropping up somewhere in the globe and it will make us nervous and test our patience to remain invested. In my opinion, since we are in a turbulent phase, all we must do is to wear our seat belt and sit back and wait for this phase to be over.
A fall in prices is always an excellent time to buy something cheap. Buying cheap is the first and most important aspect of successful investment. If you have SIPs running in equity mutual funds, then it is better. Without bothering about timings, next few instalments will buy the same units at a cheaper price and will reduce your overall cost of holding.
Of course, you will be witnessing the fall in portfolio value but it is ok, as long as your money has gone into right schemes and as per the asset allocation prescribed to you. Never forget, that value of equities eventually goes up because of increase in profits of the businesses. Volatility emerging from any corner of the economy can temporarily alter the value of the business but it once again gets restored to its correct levels as the volatility ends.
Stick to your plans and asset allocations. Just don’t change it unless there is a dire need for it. I am expecting that as a part of your asset allocation, you must be keeping sufficient money in Liquid / Cash funds for your regular needs and only the Long term money into Equity funds / Stocks.
Is this sounding like theory and in practical and real life its impossible to make money in such turbulent phases. Here I have taken an existing mutual fund which has more than 2 decades of experience in India to check what happened to SIPs which were continued in the phase of Recession of 2008. Just to brief, what happened to Indian Stock market in 2008 global recession :
In Dec’2007 Sensex was at its peak of 20k and during 2008 and 2009 it dropped to as low as 8k. This recession took 3 years to recover to the old levels.
For the investors who continued equity investments through this 3 year phase, has made huge money. While the investors, who feared global crisis and moved in search of safe asset class, have not made this kind of money.
So, in this fund if someone had done SIPs 1 lakh rupees every month since Dec’07 to Dec’10, they would have invested 37 lakhs in total. You will be amazed to see the existing value of this three years SIP. Can you take a guess??? It is whopping 1.87 crs as of Jun’18.
Usually how many of us would have had the courage to continue SIPs during this phase. But for those who continued & stayed invested till now had made quite an amount from this investment.
Hence, remember, the only mantra for successful wealth creation is right asset allocation, disciplined investing, having patience and staying invested for long term and most importantly managing emotions in turbulent times. Here I am not saying ignore the noise around but I am saying be cautious of what’s happening around and stay invested with right awareness and not with fear.