Index fund at High P/E a discussion to be done at this time. We use to advise our reader to shift investing in Index funds. As a Goal-based Investor, Index funds or ETF’s will be benefiting in long run with compounding power.
The passive investing methodology is been advised by many experts and financial advisors. As, it is a way of investing directly in Indices like Nifty 50, Sensex, Nifty Next 50, Nifty 100, etc.
In the last 5 years, almost 95% of actively managed equity mutual funds had declined in performance compared to index Nifty 50.
These funds have many advantages when compared to active funds;
- Minimum Tracking Error.
- Conservative return of 10-12% P.A.
- Low risk compared to other equity funds.
- Better Risk-adjusted returns.
- No need for knowledge over equity.
- Low expense ratio.
Let us analyze deeply why you should stop investing in Index funds when the market is overvalued.
Disclaimer: This article is not to offend investors, this is completely an unbiased approach. Our aim here is to make investors make clear on the actions at high P/E of the market. We are not SEBI registered advisors, consult your financial advisors before investing.
How to find High P/E:
The data is easily available on the NSE website. Under historical data from the resource tab and you can collect the current P/E to last 20 years back P/E value.
When a P/E ratio (Price to Earnings) is higher than 25, it is known as high value or market overvalue. That is when the Price of the Nifty 50 is traded at 25 times its earnings.
As we have discussed in detail about the Indicators of the Stock Market crash, where we have mentioned the P/E ratio is also an indicator.
What happens while we invest in High P/E:
We hope, most of you would have seen the COVID-19 crash of 38% in Nifty 50 and 37% in SENSEX. At the same time, Bank Nifty declined by 68%.
Have you ever think, what would have happened to your SIP (Systematic Investment Plan) which investors did in January. It would have crashed and created a panic. This will lead to,
- They might end up in a panic selling and lose all the long term wealth. Or,
- Their investment will be still negative which was done in Nifty 50 on Jan 2020.
The big problem in investments on High P/E is a Systematic Investment Plan (SIP). In Lumpsum investment, you can be cautious about the market condition.
SIP – A high risk in an Index fund at High P/E of Indices:
Many Asset management companies started promoting SIP. Recently, HDFC AMC has come with an Advertisement on “Systematic Investment Plan” for Longer investment innings.
You should be more vigilant on, why this AMC promotes mutual funds, that too SIP. They have expense ratio benefits.
We have seen many articles and Youtube say, “Invest in Nifty 50 and Nifty Next 50 for the next 20 years”.
The funny part they try to convenience on SIP is,
- Your investment grows in Bull Market (when the market grows)
- Your Units of holding will increase in Bear Market (when the market falls)
Our question is,
- What is the expected result by SIP even on High P/E in Nifty 50 for the next 20 years?
- What if, market crash happen in 20 years.
Please go through our article on the Nifty 50 Index vs Nifty Next 50 Index. This article will show you the perfect path of why you can stick your investments only with Nifty 50.
During Crash, the 10-year return of Nifty 50 was only 1.2% (if you have done SIP).
In the last 5 years of Nifty 50 has surpassed Nifty Next 50. And you can see the 5 years return of Nifty 50 is Just 3.71% per annum (CAGR)
Is SIP the wrong concept?
No, Never we said. SIP is continuing even in High valued market, which investor doesn’t know about the return which they are going to get over SIP in an overvalued market.
SIP should be used only for investors who are,
- New to equity mutual funds.
- Don’t find any time to analysis
- Don’t care about the return strategy.
- To develop discipline in investing.
Apart from this, the usage of SIP and Lumpusum is well explained in our article Equity Mutual funds – SIP or Lumpsum.
- When P/E is higher than 25, stop SIP in Index funds.
- Wait for recovery of the market or earnings to grow. So, the P/E will come down.
- Hold the SIP amount in Debt funds like Liquid fund and ultra short term fund.
- After the crash, Invest through lumpsum on the amount which you hold in debt funds.
- Finally, start the SIP again, while the market starts its recovery.
INSIGHT FOR INVESTORS:
- Still, we suggest Index funds as the best option while it comes to long term and goal-based investors.
- At the same time, kindly check the P/E of the Nifty Index and stop your investments which is higher than 25.
- The last 3 year’s return of Nifty 50 is just 2.67%. This tells the market is moved no where and the P/E was ranging from 25-35.
- Currently, P/E is more than 35. Still, people keep on investing in SIP. This point has to be avoided in your investment journey.
- If you can’t spend a small time in a year on market data. You will not be having any right to blame the market.
- There is nothing so-called luck in the stock market. Even luck favors the brave.
Hope this article would be an eye-opener and you will avoid investing in the Index fund while the Nifty 50 Index P/E is higher than 25.