Why should you remain invested in a volatile market?

• Date : April 24,2025

Summary

Market volatility, the very nature of the stock market, is unavoidable and unpredictable. When market volatility hits, investors often get influenced by their behavioural biases, such as Hot Hand Fallacy, Loss Aversion, Herd Mentality, Overconfidence Bias, and Recency Bias. When investors make decisions based on such biases, they end up making losses or missing opportunities. The best strategy during such phases is to stick to your long-term financial needs and stay invested despite any market conditions. Investors should seek guidance from a distributor to remain calm and composed during market volatility.

Introduction

Market volatility is an inherent characteristic of the market. When volatility strikes the market, it can shatter the composure of investors, making them overly excited or excessively paranoid. As these behavioural biases creep in, investors begin to lose their rationale and make decisions which are often not in their best interests. 

When the market is in a bullish phase, investors often get greedy, due to which they purchase more and more units even at higher prices. On the other hand, when markets are in a bearish phase, investors get fearful and start selling their units, turning their unrealised losses into actual losses. This creates a cycle of panic and greed amongst investors, guiding every decision they make. 

So, the question arises - What exactly should one do when the markets are volatile? 

The best thing an investor can do during times of market volatility is to hold on tight to their long-term investment strategy. Let’s look at 5 behavioural biases that arise during market volatility and why sticking to a long-term investment strategy is the best way to deal with market volatility.

5 Common Behavioural Biases During Market Volatility

1. Hothandfallacy - In a game of cricket, when a player is on a hot streak, such as a batter making powerful hits or a bowler taking wickets repeatedly, it is believed that this outstanding performance will persist. However, such a belief is fueled by overconfidence rather than rationality. Similarly, in investing, when markets are experiencing a bull run, investors become excited, overly optimistic, and start investing excessively. History has repeatedly shown that such performance is often followed by periods of low or negative returns. Furthermore, markets are unpredictable, and relying on these trends is always a gamble, and a risky one at that. Instead of placing excessive emphasis on these events, investors should stick to their long-term investment strategy to maximise returns over time.
   
   
2. Lossaversion - When the fear of losing a certain amount outweighs the hope of gaining an equal amount, it is referred to as loss aversion bias. This bias becomes particularly apparent during market downturns. Additionally, in bear markets, investors often withdraw their investments, halt their SIPs, and realise losses. However, when investors concentrate on their long-term financial needs and invest with consistency and discipline, they can not only acquire more units by capitalising on bear markets, but they can also stay on course to meet their financial requirements and build wealth.
   
   
3. Herd mentality - The mentality that ‘if everyone is doing it, maybe I should do it too’, is known as herd mentality. This bias leads investors to follow irrelevant trends and fads in the market, which may lead to losses or missed opportunities. Every investor is unique with different needs and risk profiles. A ‘one-size-fits-all’ strategy may not work in such scenarios, and investors need to follow a tailored approach to fulfil their needs and build wealth. Sticking to your own investment strategy and ignoring market noise is of utmost importance to achieve the best results.
   
   
4. Overconfidence bias - At times, investors overestimate their ability to time the market or their risk-taking capacity. This leads them to make erratic decisions with the utmost confidence, which often becomes the reason for their losses. Timing the market is impossible, but what investors can do is to stay invested with SIPs in mutual funds. SIPs allow investors to capitalise on all types of market conditions and can take advantage of each stage of the market, whether it is a bull market or a bear market.
   
   
5. Recencybias - Recency bias refers to the tendency of investors to give greater weight to recent events or news they have encountered recently. This inclination undermines their capacity to make unbiased decisions. When investors are too focused on events that have occurred recently, they might overlook important pieces of information that are not too recent. This impairs investors’ decision-making ability and causes them to drift away from their long term investment journey. When a long-term investment strategy is created along with the guidance of a financial advisor or a mutual fund distributor, it is made considering all pieces of information integral to decision making, eliminating recency bias. Hence, to avoid recency bias, investors should stick to their long-term investment strategy during times of market volatility.
   
   

How does SIP help tackle market volatility?

A systematic investment plan (SIP) follows a systematic approach to investing. With an SIP, you can invest a fixed amount at regular intervals regardless of the market conditions. Through this, investors can maintain discipline and consistency in their investment journey, which ultimately helps them drive better returns, fulfil financial needs, and build wealth in the long term. Due to regular investments of a fixed amount, investors buy more units when the prices are low and fewer units when the prices are high. This benefit is known as rupee cost averaging and is paramount in tackling market volatility with discipline and consistency.

Rupee Cost Averaging - An Example

Through the benefit of rupee cost averaging, investors can purchase more units when the prices are low and fewer units when the prices are high. Let’s understand rupee cost averaging with the example below:

From the tables above it can clearly be seen that when a fixed investment is made every month through SIPs - 

1. More units are purchased when price is low.
2. Less units are purchased when the price is high.
3. The total cost of investment is averaged out in the long term.

Returns with SIP

When an SIP is done for the long term, if it is stopped before the time of need fulfilment, investors end up missing out on gains. Let’s look at this with the help of an example.

If you had started an SIP of Rs 10,000, 25 years ago, you could’ve built an estimated corpus of Rs 1.88 crore. However, if you stopped this SIP within 15 years of starting it, you would’ve just built an estimated corpus of Rs 50.19 lakh, which means that you would’ve missed out on gains of Rs 1.38 crore!

(Assuming investment in Equity Fund and an average return of 12.62% p.a. as per AMFI Best Practices. Guidelines Circular No. 135/BP/109-A/2024-25 dated September 10, 2024. Past performance may or may not be sustained in the future. Mutual Fund investments are subject to market risks, read all scheme-related documents carefully.)

Hence, rather than stopping SIPs, investors should continue investing through their SIPs consistently to get the maximum benefit from their investments.

Conclusion 

To conclude, volatility in the market is inevitable and determining the best time to invest or predicting the market movement is impossible. The best strategy during such times is to be disciplined and consistent and stick to your long-term SIPs. With the power of SIPs, investors can average out the overall cost of investment, making it a more viable option as compared to relying on market timing. Through SIPs, investors get equipped to ride the waves of market volatility with confidence.

Frequently Asked Questions (FAQs)

Q1) What is market volatility?

Market volatility refers to the ups and downs of the market. It is a statistical measure of the dispersal of prices of securities in the stock market, and it represents how the prices of an asset differ from the mean. 

Q2) What is the best way to handle market volatility?

The best way to handle market volatility is to stay true to your long-term investment strategy, believe in your strategy, and invest with discipline and consistency. Moreover, investors can seek the guidance of an investment advisor or a mutual fund distributor, who can understand their financial needs and risk profile and provide personalised guidance and hand-hold them throughout their investment journey. 

Q3) When should I redeem my investments?

Investors should redeem their investment or stop their SIPs only when they have built an ample corpus for the financial need that they intended to fulfil with the investment.