Why navigating stock market boom requires caution

Humans are uniquely prone to getting swept away during extreme times—after all, we have both a mind and a heart. While the mind represents intellect, the heart governs emotion. Ideally, we should make decisions with our minds, yet our emotions often take the lead, sometimes resulting in poor financial choices.

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We’ve all heard the adage: Human memory is short and fickle. Throughout history, from the tulip mania of 1657 to the 2008 financial crisis, market events have repeatedly taught us the same lessons. Yet, many fail to learn because human behaviour and emotions, driven by greed and fear, remain unchanged.

So, how can we safeguard ourselves against emotional pitfalls?

First, it’s essential to set aside an emergency fund for uncertain times. The pandemic brought medical emergencies, job losses, and business closures into sharp focus. Building an emergency corpus—investing in liquid, low-volatility assets equivalent to six to 12 months of expenses—can help weather these storms.

Another critical step is creating a financial plan and adhering to the asset allocation it prescribes. Discipline in sticking to this plan protects us from the temptations of greed or the fear of missing out (FOMO), preventing our emotions from becoming our worst enemy. A well-thought-out plan ensures we don’t overextend when one asset class is thriving and encourages us to maintain our SIPs even when the outlook appears bleak.

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It’s also vital to accept and be comfortable with the fact that wealth creation involves navigating the volatility inherent in markets. Understanding this can condition us to capitalize on market fluctuations by adopting a contrarian approach when appropriate.

“Be greedy when others are fearful and fearful when others are greedy,” Warren Buffett famously said. While there’s safety in numbers, in investing, it’s often the prudent contrarians who come out on top.

During market booms, new initial public oferings (IPOs), new fund offerings (NFOs), and other obscure financial products flood the market. While being open to new opportunities is beneficial, it’s equally important not to get swept away. Conducting thorough research and due diligence is crucial before deciding to invest. Following others blindly is risky—what works for them may not work for you.

If you anticipate needing funds for a specific goal or expense within the next two to three years, consider redeeming part of your investments. If not, continue with your investment plan and let the magic of compounding work in your favour.

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Finally, remember that investing is a marathon, not a sprint. Aim for a long-term horizon of at least five years. Volatility is an inherent feature of markets, not a flaw. Riding through this roller-coaster is key to wealth creation.

The takeaway here is that investing should be boring. When it becomes exciting, you’re no longer investing—you’re gambling. It’s up to you to choose between short-term thrills and long-term wealth.

Neil Parag Parikh is chairman and chief executive PPFAS Mutual Fund. Views expressed are personal.