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Four common investment mistakes to avoid during bull markets

ICICIdirect 12 Mins 27 Nov 2023

Most experts believe we will have one of the biggest bull runs in the coming years. No one can predict that with surety but if it happens, investors will have a joyful time investing in India. However, it will only happen under one condition - you must avoid the common investment mistakes people make during a bull market. But what are those mistakes? In this article, we will talk about the four common investment mistakes to avoid.

What is a Bull market?

First, we want to be clear with the term 'bull market'. A bull market refers to a sustained period in the financial markets when prices of stocks generally rise, reflecting optimism, economic growth, and positive investor sentiment. If the Nifty 50 experiences consistent and substantial gains over several months or years, it indicates a bull market. During such periods, you witness higher returns on your investments as the overall market sentiment is positive and economic indicators are favourable.

Do you want to study the bull market? For that, you need to know one! The period between December 2009 and January 2015 is considered to be one of the biggest bull markets in India in recent decades.

4 Investment mistakes to avoid during Bull Markets

Now that you know a bull market and have homework to study it, let us move to the mistakes directly. Make a note of these and regularly check you are not committing one of these in a bull market.

Mistake 1: Ignoring Fundamentals

Fundamental analysis involves assessing a security's intrinsic value by examining various financial metrics and economic factors. Let us consider an example to understand the impact of neglecting fundamentals. Suppose we are in a bull market where stock prices are generally rising. A particular company, XYZ Ltd., has seen its stock price surge by 30% over the last few months due to market optimism. Influenced by the prevailing bullish sentiment, you decide to invest a significant portion of your portfolio in XYZ Ltd. without thoroughly analysing the company's fundamentals.

However, you are unaware that XYZ Ltd. has weak financials, including declining earnings, high debt levels, and a lack of competitive advantages. While the stock price continues to rise in the short term due to overall market exuberance, the lack of solid fundamentals makes XYZ Ltd. vulnerable to any adverse economic developments or shifts in investor sentiment. 

As the bull market continues, you may feel reassured by the rising stock price but are essentially exposed to a higher level of risk. When the party gets over, and the economic conditions deteriorate, the stock price of XYZ Limited is most likely to see massive correction, and you will suffer heavy losses. It may happen so quick that you won't get time to react.

Mistake 2: Panic selling at an all-time high

The concept applies both at the stock level and market level. The market touched the 20K mark a few months back and may touch the 20K mark soon again. Whenever the market touches or trades near a time high, you may get the feeling of selling your investments for two reasons: 

  • you may be sitting at all-time high gains 
  • you expect the market will crash from the current levels. 

You may be tempted to sell now and buy when it falls. To remind you, the market did go down from 20,000 to 19,000 in a week!

Consider a scenario where you hold a stock that has experienced substantial gains, reaching an all-time high. For instance, let us say you purchased the company's shares at Rs 100 each, and due to a prolonged bull market, the stock has surged to Rs 200, reaching an all-time high, and the market is also at an all-time high.

In a bull market, there might be instances of increased volatility or temporary market corrections. If you panic and decide to sell your shares at an all-time high due to fear of a potential downturn, you may miss out on further potential gains. Even if the market experiences a short-term dip, the historical trend in a bull market suggests that prices often recover and continue to climb.

For instance, let us say the market encounters a temporary correction, causing the stock to drop to Rs 180. If you panic and sell at this point, you lock in a profit of Rs 80 per share (selling at Rs 180 when bought at Rs 100). However, if you had held onto the stock, it might have rebounded and reached new highs, such as Rs 250, in the subsequent months. In this case, the panic selling resulted in missed opportunities for additional gains.

Mistake 3: Ignoring Valuations

Ignoring valuations in a bull market can be a costly mistake. Why? It may lead you to buy stocks at inflated prices, leaving you vulnerable to potential downturns. Valuation metrics, such as the price-to-earnings (P/E) ratio, help assess whether a stock is overvalued or undervalued based on its earnings.

For instance, let us consider a stock, XYZ Ltd., during a bull market. At the beginning of the bull market, XYZ had a P/E ratio of 15, indicating that investors are willing to pay 15 times the company's earnings for its shares. As the bull market progresses, enthusiasm and positive sentiment may cause the P/E ratio to rise to 25, signalling that investors are now paying 25 times the earnings for the same stock.

Ignoring valuations in this scenario might lead you to buy more XYZ shares at the higher P/E ratio without considering the underlying fundamentals. If economic conditions or company performance don't justify such high valuations, there is a risk of a correction. For instance, if XYZ's earnings don't meet heightened expectations, the stock price could decline, and the P/E ratio could revert to a more reasonable level.

If you had paid attention to valuations, you might have been more cautious about buying XYZ at a P/E of 25, recognizing the potential for a correction. The thing is - whatever is the market condition - you should never ignore the valuation. Buy stocks at the right price.

Mistake 4: Delaying or not making an investment

Last on the list but most common - when the market is at an all-time high in a bull market, most investors stop their SIP or don't make fresh investments. However, this mindset is because you may assume that the market will fall. However, it may not happen. You may benefit one or two times, but eventually market will break all the highs and create new highs. We will explain it with an example. Suppose you have Rs 1,00,000 to invest in the stock market at the beginning of a bull market. Over the next year, the market experienced a 20% gain. If you delay making the investment or decide not to invest at all during this period, you miss out on potential gains.

Scenario 1: Investor Delays Investment

  • Initial Investment: Rs 1,00,000
  • Market Gain: 20%
  • Delay Period: 6 months
  • Missed Gain: Rs 100,000 * 20% * (6/12) = Rs 10,000
  • Total Portfolio Value: Rs 1,00,000 + Rs 10,000 = Rs 1,10,000 (missed gains of 10,000)

Scenario 2: Investor Does Not Invest

  • Total Portfolio Value: Rs 1,00,000

No market exposure and hence no gains.

Before you go

In a bull market, you must stay disciplined, focus on long-term goals, and avoid succumbing to emotions or short-term market trends. Periodic reassessment of your portfolio and adherence to sound investment principles can help navigate through bull markets with a more resilient strategy.

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