How much money will you lose if the stock market falls in the short term?
This article shows you the amount of loss you will potentially make when the stock market falls in the short term and how to deal with such a market fall.
How much money will you lose if the stock market falls in the short term?
Posted on 20 Oct 2024
Author: Sayan Sircar
8 mins read
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This article shows you the amount of loss you will potentially make when the stock market falls in the short term and how to deal with such a market fall.
📚 Topics covered:
- How much money will you lose if the stock market falls in the short term?
- What short-term movements do you expect to see in the stock market?
- How much of your monthly SIP amount do you make or lose due to market movements in the short term?
- How frequently do Indian equity investors see short-term losses?
- How quickly does the stock market recover whenever there is a fall?
- What to do if the stock market actually falls in the short term?
How much money will you lose if the stock market falls in the short term?
It could be a lot. However, seeing a loss depends greatly on how frequently you look at your portfolio. As long as you don’t do something rash, your portfolio will be fine as it recovers soon.
In this article, we will build on our previous coverage of using broad-market index funds to create long-term wealth in the stock market. Our last article in this series is here: How to Avoid Losing Money in Indian Stocks: 2 Proven Strategies for Long-Term Success
Rule 1 to never lose money in the stock market: never buy individual stocks
As discussed in the linked article above, there is no way to make any meaningful analysis of a portfolio of stocks created and maintained by an individual retail investor. This conclusion comes from the inherent randomness of decisions that the stock-picking investor makes over the lifetime of the portfolio.
Rule 2 to never lose money in the stock market: only invest for the long term
Instead, we will explore the effects of short-term market movements on a portfolio with many stocks, passively managed as a broad market index fund. Here we use Nifty 50 price return data from 1996 onwards for this analysis.
What short-term movements do you expect to see in the stock market?
| Time | Best | Average | Worst |
|---|---|---|---|
| 1 day | 17.7% | 0.1% | -13.0% |
| 1 week | 24.5% | 0.3% | -19.3% |
| 1 month | 35.4% | 1.1% | -39.3% |
| 3 months | 77.9% | 3.3% | -43.1% |
| 6 months | 87.3% | 6.8% | -50.6% |
| 1 Year | 103.9% | 13.7% | -56.8% |
As the above table shows, there is a good chance of both making and losing money in the short term. This fact can be unnerving if you suddenly see one year or more of your monthly SIP amount has suddenly vanished due to market fluctuations.
How much of your monthly SIP amount do you make or lose due to market movements in the short term?
Here we will assume that the portfolio value is ₹1 crore and the monthly SIP amount is ₹1 lakh. We have taken the same short-term profit and loss numbers to see how many months of SIP are made or lost due to market movements.
| Time | Best | Average | Worst |
|---|---|---|---|
| 1 day | 18 months’ profit | Less than 1 month profit | 13 months’ loss |
| 1 week | 24 months’ profit | Less than 1 month profit | 19 months’ loss |
| 1 month | 35 months’ profit | 1 month’s profit | 39 months’ loss |
| 3 months | 78 months’ profit | 3 months’ profit | 43 months’ loss |
| 6 months | 87 months’ profit | 7 months’ profit | 51 months’ loss |
| 1 Year | 104 months’ profit | 14 months’ profit | 57 months’ loss |
In this case, experience with equity market volatility will make it easier to digest these kinds of fluctuations. It will be distressing to see that more than 3 years’ SIP amount was wiped out in the worst kind of monthly fall. However, this is the kind of fluctuation that is normal with making money in equity.
Also read
How to choose a debt mutual fund?
How to choose a debt mutual fund?
How frequently do Indian equity investors see short-term losses?
In this table, we show the probability of profit, frequency of loss and the average of the worst ten losses historically.
| Time | Profit probability | Loss every | Worst 10 losses |
|---|---|---|---|
| 1 day | 54% | 3 days | -8.1% |
| 1 week | 57% | 3 weeks | -17.2% |
| 1 month | 61% | 3 months | -33.8% |
| 3 months | 66% | 3 quarters | -40.1% |
| 6 months | 70% | 4 half-years | -47.8% |
| 1 Year | 80% | 5 years | -55.7% |
The less frequently you look at your portfolio, the less likely you will see a loss: For example:
- if you look at your portfolio daily, you will see a loss at least every 3 days
- but if you increase the gap between reviews, you will likely see a loss not before every five years
There are some important conclusions here for everyone who gets unnerved by market gyrations:
- irrespective of the holding period, the probability of making a profit is positive
- but the worst-case losses are quite significant.
But the market does recover as we show below.
How quickly does the stock market recover whenever there is a fall?
| Time | Worst 10 losses | Days to recover |
|---|---|---|
| 1 day | -8.1% | 50 |
| 1 week | -17.2% | 113 |
| 1 month | -33.8% | 199 |
| 3 months | -40.1% | 245 |
| 6 months | -47.8% | 193 |
| 1 Year | -55.7% | 255 |
As the table shows above:
- if you see the worst daily loss of 8%, it is likely that the market will recover in less than 50 days (or 2 months)
- if you see the worst weekly loss of 17%, it is likely that the market will recover in less than 113 days (or 4 months)
- and so on
What to do if the stock market actually falls in the short term?
Stock market falls should be approached in the same way as the Amazon Diwali Sale
If you understand the concept of rebalancing, stock market falls are a good time to buy low (due to the fall) and later sell high.
Rebalancing is a vital risk management tool to achieve one objective: portfolio risk over time needs to be managed per market movement and horizon of the goal. For example, bull markets make the portfolio’s equity component go up, increasing the portfolio’s risk once a market correction comes. Having the plan to rebalance from equity to debt manages this risk. Similarly, there is a buying opportunity in a bear market if you sell a part of debt holdings to buy equity. Also, as the goal comes closer, the portfolio’s risk must be lowered by lowering the equity component. Rebalancing allows this as well.
Rebalancing allows you to
- Systematically buy low and sell high
- Should be done at the portfolio level (all goals together to minimize the number of trades and taxes)
We have a detailed article on the concept of rebalancing here: Portfolio rebalancing during goal-based investing: why, when and how?.
If you are using the Arthgyaan goal-based investing tool, you can perform rebalancing very easily as the image above shows. For real-life examples of rebalancing in practice, refer to our portfolio case studies.
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This post titled How much money will you lose if the stock market falls in the short term? first appeared on 20 Oct 2024 at https://arthgyaan.com
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