Beware of price discounts! – The Hindu

There is a fundamental difference between buying products for personal consumption and investment products. Yet, most prefer discounted prices for both — more the discount, greater the emotional satisfaction. Here, we discuss why discounts are not always good for investments. We also discuss when to take advantage of price discounts for your core portfolio (goal-based portfolios).

Investment vs. consumption

Buying household supplies and lifestyle products at a discount improves emotional and financial wellbeing. Investments are different. You buy assets such as stocks and bonds with the objective of selling them at a higher price later, not to hold them forever. So, you ought to buy shares today you believe others will find attractive later. In other words, you must understand investor behaviour and stay ahead of the crowd. In this context, be mindful when stocks are available at steep discount to recent highs.

Institutional investors such as mutual funds and foreign institutions drive trends in the stock market. So, if a stock is trading at a price lot lower than recent high, it ought to be for a reason. Otherwise, institutional investors may have bought the shares, and in the process, bid up the prices. This does not mean the reason for the price decline must be always reasonable or logical; stock markets are driven by participants’ (emotional) reactions to corporate events and macro-level developments. The point is a stock trading at a discount may take a long while to rise in price. Are you willing to hold such stocks for as long as it takes to generate handsome gains? Or do you want to invest to achieve your life goals?

Conclusion

It is behaviourally optimal to invest via systematic investment plans (SIPs) in equity funds for core portfolio. That way, you leave it to professional managers to generate handsome gains on investment. One way you can take advantage of price discounts is to invest more (in addition to monthly SIPs), when the entire market declines sharply due to unexpected negative developments, including a global or political crisis. If you want to buy individual stocks, it is preferable to keep such investments outside core portfolios. Trading to capture short-term market fluctuations is behaviourally optimal. But you are likely to do well when you buy stocks on price momentum not on steep price discounts.

(The writer offers training programme for individuals to manage their personal investments)