Indian equity markets have been on a roll during the past year. Both Sensex and Nifty have risen by over 20 percent over the period. Mid-cap and small-cap indices have been much more generous to investors, with over 50 percent gains. These are, typically times when irrational exuberance leads to excesses, resulting in investors making mistakes, and subsequently incurring losses when the markets turn unfavourable.
The surge in retail participation in the futures and options (F&O) segment of the market is one such worrying trend that has caught the market regulator’s attention. The Securities and Exchange Board of India has already formed a committee to look into ways to curb participation in the F&O segment.
Similar kinds of exuberance are also playing out in the mutual fund space, with asset management companies lining up thematic and sectoral funds to cash in on the bullish market trends. The two themes that seem to be the flavours of the season are defence and manufacturing funds. Then there are others focused on new energy and automotive funds. Such themes are often sold with fancy predictions, and at times, with the promise of unrealistic returns. Retail investors must be wary of taking too big a bet on sector-specific funds, as these are, at best, ‘flavours of the season’.
Mutual funds are considered an ideal investment option for retail investors, as by their very nature they offer diversified portfolios across companies, sectors, asset types and even geographies. Such a strategy helps in minimising sectoral or single-asset-related risks. Over the years, passive funds have emerged as better and cheaper options for investors as they try to replicate a particular index.
A passive fund, over time, eliminates biases or errors committed by fund managers. During the last sustained bullish market trend between 2005 and 2008, mutual funds flooded investors with then-popular themes like infrastructure funds. We know how those funds fared after the massive crash in 2008 and then the sovereign debt crisis in 2011. Investors must be wary of repeating those mistakes. The key for investors is to have a diversified portfolio, invest in a disciplined manner and not get carried away when markets sway in one direction or the other.