The Importance of Long-Term Perspective in the Market
Investing in the stock market or following any investment strategy requires a long-term perspective. It is essential to understand that there will be periods of underperformance, as no strategy or index can consistently outperform the market. In this article, we will discuss the significance of maintaining a long-term perspective and provide examples to illustrate the potential outcomes.
When implementing a strategy, particularly momentum strategies, the aim is to avoid significant downturns in the market. You want to prevent yourself from falling into deep drawdowns. While you may experience smaller corrections, it is crucial not to get stuck in the deeper one. This basic thesis emphasises that you will encounter setbacks along the way, but by avoiding substantial falls, you will be able to recover.
Case Study : Mi India Top 10
Let’s take a look at Mi India Top 10 as an example of how underperformance can occur in a specific period. In the previous financial year, the strategy experienced a loss of nearly 8%, while the index only declined by 1%. This resulted in a 7% gap between the strategy’s performance and the index.
To give a broader perspective, let’s analyze the performance of this strategy in previous years:
– FY 16-17: The strategy achieved a 35% return compared to the index’s 20%.
– FY 18: The strategy had a minor gain of 11.7% versus the index’s 10%.
– FY 18-19: The strategy outperformed with a return of 25% compared to the index’s 15%.
– FY 20: Amid the COVID-19 pandemic, the strategy experienced a loss of 21% while the index dropped by 26.5%. Although it underperformed the index, the strategy’s losses were less severe.
– FY 21: The strategy suffered a loss of 64% compared to the index’s 71%. While it still experienced a loss, it had gained in absolute terms and outperformed the index by 7%.
– FY 22: The strategy made an impressive comeback, outperforming the index by 20%. It achieved a return of 39% while the index gained 19%.
– FY 23: As of now, the strategy has shown a gain of 18% compared to the index’s 13%.
As we can see from the example, strategies can have their own cycles of performance. Some years may result in underperformance, while others may lead to outperformance. It is important to keep in mind that these fluctuations are part of the market dynamics.
Staying with the Strength of the Market
The crux of momentum strategies lies in selecting stocks with higher momentum from the top performers of the market. By focusing on the stronger stocks and avoiding the weaker ones, the strategy aims to deliver outperformance across the long term. Although there might be variations in the short term, the overall idea is to align with the strength of the market.
To truly benefit from these strategies, it is crucial to have a long-term perspective. By being patient and maintaining a longer holding period, the impact of one or two years of underperformance can be minimised. The performance of strategies improves significantly over an extended period of time, as seen in extensive research and the running of many investment strategies.
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