The equity benchmark BSE Sensex have scaled the psychological mark of 40,000 and touched a new high of 40,300. Its reclaiming of 40,000 levels at closing trade may have significance for the media and the technical market analysts. But, this number of 40,000+ means little for a large part of the investing community especially the retail investor.
The Sensex has successfully crossed peaks like 5,000, 10,000, 20,000, 30,000 and now 40,000. But remember, your investments are not directly linked to the Sensex, although the market mood can be gauged somewhat by the way investors talk about the bazaar.
Here is a piece of advice: Ignore the hullabaloo around Sensex at 40,000 or the imminent Nifty at 12,000 type of news and analysis. Your personal financial goals will not change because Sensex is at 40,000 or 10,000. You will still need to save that Rs 1 crore for your retirement corpus — your goal is non-negotiable. You will still need to send your kids to school and college. If Sensex is at 40,000, it does not mean your duties as a parent will reduce, or will increase. Ignore market levels and keep investing. Read on.
Sensex only a small basket
The Sensex is a basket of 30 stocks that have been arranged in a particular way. The Nifty is a basket of 50 stocks that have been arranged in a different way. But, India’s market comprises over 4,000 stocks with about 400-500 that are traded in heavily.
The Sensex going up or down may make for catchy headlines or elaborate articles by pundits. But, the truth is levels like 40,000 and so on do not really mean a lot. Why? The Sensex going up to 40,000 has not happened because all the 30 stocks went up. In fact, about 19 stocks closed higher on a day when the Sensex raced past 40,0000 while about 11 stocks closed lower than the previous day.
As a basket, the Sensex represents only a minuscule proportion of the Indian market in the number of stocks. Just 30. If you look at the BSE AllCap index, about 515 stocks closed higher while 375 closed lower. Your personal investment portfolio value will be dictated by more than just 30 or 50 stocks. Top mutual fund houses hold anything between 250-350 stocks.
Sensex matters if you bet on index funds
There is a category of funds that copy an index and invest your money in them. This category has index funds and index exchange-traded funds (ETFs). But a very small portion of people actually uses the index fund strategy to deploy their investments.
If you invest in index funds and ETFs, where the Sensex, the Nifty 50 or any other index will matter to you. Or else, they will not matter much.
Across different indices, the levels differ. The Sensex may be inches away from its lifetime highs and has gained 17% in the last 12 months. But not every index has done well in this time. If your investment is in stocks that have not done well, Sensex at record highs will not help you. For instance, the metal index is down 27% in last 12 months, the same time period when the Sensex has galloped more than 17%. The healthcare index is down 9% in the last 12 months. The telecom index is down 8%. Basic materials and auto indices are down 3-4% each.
What do the above figures tell you? They are a living proof that Sensex at 40,000 do not mean every investor will necessarily have a growing stock portfolio. Many of them, especially those have invested in midcap and smallcap stocks, will have little joy. They are only hoping that someday their midcap and smallcap stocks will recover and they can make their profit.
Valuation more important than market numerical levels
Tomato was selling for Rs 100 per kilo before Diwali. Potato was selling for Rs 35 per kilo. Does this mean potato is better for your health since it is cheaper? Or, does this mean tomato because it is more expensive is not worth having? Nutritionists will tell you that a healthy diet should have a mixture of all things. Too much potato in your food will make you fat, just as too much tomato will give a sour taste to everything you eat.
In the stock market, market levels are merely a number. The really smart way to analyse a market level is through its valuation, a measure that tells you whether that index level is expensive or not. There are various formulas to calculate the valuation of an index like Sensex or Nifty. The most popular way is through a Price/Earnings ratio or called P/E.
Not just stocks, any investment results in outperforming portfolio gains in the long run only when they are purchased at reasonable valuations. Just as buying tomato at Rs 1,000 per kilo is a bad move, in the same way buying the best stock, say RIL, TCS or ITC, at extremely levels is an unwise move. One share of RIL costs Rs 1,480 today while one share of TCS costs Rs 2,250. Does this mean TCS is more expensive than RIL? No! Here is where the valuation formula comes into play. With the use of valuation tools like P/E, you can find whether a stock of a profitable company is more expensive than its peers.
There are two types of P/E formulae. In one formula, you calculate the historical P/E ratio by using historical profit and in the other formula, you calculate the future P/E based on estimated profit in the future. In both cases, the price is the same because the price is the current rate of the stock.
Instead of getting fixated about market levels, investors should spend more time in knowing what is the valuation of the index or the stock and where does the valuation stand relative to others.
Your financial goal needs to be achieved irrespective of market levels
A 35-year old who wants to retire at 60 years of age will face retirement in exactly 25 years’ time. That is the harsh truth. When this person turns 60 and they will turn 60 in 25 years’ time, they need a certain sum of money to survive. Whether the Sensex is at 40,000 or 50,000 or 1 lakh or 5,000 does not really matter as far as your goal is concerned.
Many retail investors feel that the risk of any investment is expressed in terms of losses. A loss of course hurts. But, the real risk of any investor is that their financial goal will not be met on the target date. Assume you want to save Rs 15 lakh for your daughter’s higher education in the next eight years i.e. in the year 2027. In 2027, your daughter will need Rs 15 lakh. If in 2027, you find out that you have been able to save just Rs 5 lakh, your daughter’s higher education dreams will have to limited to a budget of Rs 5 lakh —- this is the real risk. The chance that you will not be able to meet your financial goal on the target date is the risk!
Hence, every retail investor with a proper financial goal should just continue to invest. You may be doing lump sum investments in stocks, mutual funds, bank FDs or gold or anything else like small savings schemes. Irrespective of where the market is, remain committed to your investment plan and keep investing till you reach your goal.
It really does not matter where the Sensex is as long as you are on track and your goal is achieved. Keep calm and follow the investment plan that you have in your mind. When somebody tells you about Sensex@40,000, just smile and move on with your life.