Should You Invest In A Falling Market?

The prolonged downturn has upended conventional wisdom: the tried-and-tested strategy of ‘buying the dip’, which rewarded investors handsomely during past corrections, now appears increasingly perilous. As market dynamics shift, the rules of the game are being rewritten. The article explores the possibilities of staying afloat even during such turbulent times 

The Indian equity market, once celebrated for its resilience in turbulent times, has faced an exceptionally challenging phase over the past five months starting October 2024. Benchmark indices like Nifty 50 have plunged by -13.85 per cent from its peak in September 2024, marking India as one of the worst-performing equity markets globally during this period. This stark underperformance stands in sharp contrast to gains seen elsewhere: Germany’s DAX surged 15.16 per cent, Hong Kong’s Hang Seng climbed 13.13 per cent, and U.S. indices like the NASDAQ and S and P 500 posted robust returns of 6.44 per cent and 4.27 per cent, respectively. 

Even European stalwarts such as the FTSE 100 (UK) and CAC 40 (France) stayed resilient with gains of 4.06 per cent and 3.84 per cent, while other emerging markets like Brazil’s IBOVESPA (-5.52 per cent) and Japan’s Nikkei 225 (-2.64 per cent) saw milder declines. Nifty’s struggles reflect a perfect storm of domestic pressures—slowing corporate earnings, sticky inflation, and capital outflows—compounded by global macroeconomic headwinds and geopolitical volatility. All these factors have simultaneously impacted the domestic stock market, pulling it into a downward spiral with a dim chance of an immediate breakthrough. 

The prolonged downturn has upended conventional wisdom: the tried-and-tested strategy of ‘buying the dip’, which rewarded investors handsomely during past corrections, now appears increasingly perilous. As market dynamics shift, the rules of the game are being rewritten. Investors are now forced to reckon with a stark reality—what worked yesterday may not work today. In this environment of heightened volatility and structural uncertainty, adapting to a new playbook is no longer optional but imperative. This article explores how to recalibrate investment strategies to not only survive but potentially thrive in a falling market, turning risks into opportunities while safeguarding capital. 

Embracing New Market Leaders 

Investors often have the tendency to chase past winners of an early bull market, especially when these stocks have declined significantly and appear attractive at lower prices. This approach frequently leads to fresh purchases. However, history suggests that yesterday’s market leaders often lose momentum, resulting in diminished returns for those who continue to pursue them. There are numerous instances where a dominant theme in one market rally fails to participate in the next. 

For example, infrastructure and real estate stocks, which thrived during the 2004-2007 boom, took over a decade to reclaim their previous peaks. Many stocks never recover to their earlier highs, and some even cease to exist. A case in point is DLF, which reached a high of ₹1,250 in early 2008 but has yet to reclaim that level even after 17 years, still trading in three digits. Similarly, the pharmaceutical sector, which was one of the top-performing sectors between 2012 and 2015—tripling the Nifty Pharma index in that period—experienced five consecutive years of underperformance. 

It was only after the corona virus pandemic that pharmaceutical stocks rebounded, and the index surpassed its previous peak in 2021. More recently, the chemical sector, which surged in 2021, took a backseat during the 2023-24 rally. Even well-established names such as HDFC Bank and Kotak Mahindra Bank—which delivered stellar returns for years—have underperformed since 2020. While these companies and sectors may remain fundamentally strong, the market continuously seeks the ‘next big thing’, often causing previous leaders to slip into temporary underperformance. 

At the same time, new themes and emerging winners take centre-stage, presenting fresh opportunities for growth. This underscores the importance of forward-looking investment strategies. Investors who focus on identifying the next wave of winners rather than clinging to former high-fliers that may be at the tail end of their growth cycle stand to gain better rewards in the long run. It is clear therefore that investors must be aware of those stocks that indicate potential of moving forward in the short or long term. Identifying companies that exhibit potential is the key to investing well. 

Monitor Relatively Stronger Names 

Stocks trading above their 50-day and 200-day moving averages (DMAs) are generally considered strong because these averages represent key levels of support and resistance based on historical price action. The 50-day DMA is a shorter-term trend indicator, reflecting more recent price movements, while the 200-day DMA represents a long-term trend. When a stock is above both of these moving averages, it suggests that the price is in an uptrend, and there’s broader market sentiment supporting the stock’s growth. 

It indicates that the stock is performing well both in the short term and long term, signalling strength and momentum. Our study of all the current constituents of BSE 500 companies of the last major fall during October 2021 and June 2022 shows that companies whose share price did not go below its 50-day and 100-day moving average generated median return of 32.11 per cent compared to 29.83 per cent posted by companies whose share price breached the 50-day and 100-day moving average price. 

Look at Valuations 

Investing in an undervalued stock with a single-digit price-toearnings (PE) ratio on a 1-2 year forward basis in a falling market can present an attractive opportunity for long-term investors. A low PE ratio often suggests that the stock is undervalued relative to its earnings, meaning investors might be paying less for each rupee of profit. This is true only if the company’s fundamentals remain strong and are not deteriorating. Investing in such companies offer investors a margin of safety. 

In a falling market, stock prices often drop due to broader economic conditions or short-term investor sentiment rather than company-specific issues. This can create opportunities to acquire solid businesses at a lower price, with the expectation that the market will eventually recognise their value when conditions improve. Additionally, stocks with low PE ratios may have greater upside potential, as they are more likely to re-rate upwards once the market sentiment shifts, providing significant capital appreciation. 

Keep Allocations in Check 

The ‘dip feet into the water’ strategy encourages investors to gradually enter the market, especially in uncertain or falling market conditions. Instead of committing all your capital to a few stocks at a time, it’s wise to diversify your investments across multiple sectors and companies and invest your corpus in small chunks over a period of time. By spreading your investments, you reduce the risk of significant losses in case one of the stocks underperforms. In a falling market, individual stocks can experience heightened volatility, and even strong companies can temporarily dip in value due to the broader market trends. 

By not concentrating your entire portfolio in just 2-3 stocks, you give yourself the flexibility to navigate market downturns with more resilience. The strategy of gradually investing in different assets also allows you to gauge market conditions, evaluate potential opportunities, and avoid making impulsive decisions. It helps protect your capital, increases the likelihood of steady returns, and provides a balanced approach to both risk and reward. The logic is very simple: spread the risks at times of volatility so that losses suffered in one particular asset class may be offset by gains in another. 

Fundamental Catalysts 

As an investor, it’s crucial to focus on stocks that have strong fundamental catalysts, especially in a highly volatile market with a negative sentiment. Companies which are poised for margin expansion and consistent performers often indicate operational efficiency and potential for higher profitability, providing a cushion against broader market volatility. Investments in new capital expenditures signal future growth and the management’s confidence in future demand, while a change in management can bring in fresh strategies that improve performance. Insider buying, especially by promoters, reflects confidence in the company’s long-term potential, even when the market sentiment is bearish. 

New product launches or technological breakthroughs can also act as growth drivers, creating new revenue streams despite negative market conditions. Additionally, when government policies shift to support specific industries, those companies stand to benefit from increased attention and resources, providing a protective advantage. In such an environment, these catalysts become more important, as they help differentiate companies with strong growth potential from those merely riding out the market’s downtrend. Investors would do well to keep their ear to the ground for all such companies exhibiting future growth trends. 

Keep Panic at Bay 

Be peaceful and don’t panic. Markets don’t know that you own a stock or not. In times of market downturns or volatility, it’s essential to remain calm and avoid panic. The markets are driven by a wide range of factors, including macroeconomic conditions, investor sentiment, liquidity and global events, and they don’t consider individual ownership of stocks. For instance, the current global scenario is an interesting study that includes an increase in tariff after the return of Donald Trump in the U.S., and the ongoing conflict between Russia and Ukraine alongside the Israel–Palestine issue. These events have significant impact on the global markets and supply chain. 

When the market takes a downturn, it can be easy to feel like your investments are under threat, but reacting impulsively or making hasty decisions often leads to regret. Instead, focus on the fundamentals of your investments and remember that market fluctuations are normal over time. If you have made informed decisions based on strong research and long-term goals, it’s important to trust your strategy rather than letting short-term volatility dictate your actions. Being patient and disciplined is necessary to ride out the tough times. As the saying goes, tough times don’t last but tough guys do! 

Be Mentally Flexible for Sectoral Rotation 

Being mentally flexible in investing means adapting to changing market conditions and sectors that outperform at different times. Sectoral rotation refers to the strategy of shifting investments from one sector to another based on market trends, economic cycles, or earnings strength. In a fluctuating market, different sectors perform better at various times, so it’s important to stay open to adjusting your portfolio. For instance, during periods of economic growth, cyclical sectors like technology or consumer discretionary may perform well, while defensive sectors like utilities or healthcare might be more attractive during a downturn. 

By staying mentally flexible, you can take advantage of these shifts and ensure your portfolio remains aligned with strong earnings’ growth. It’s not about sticking rigidly to one sector but rather identifying areas where companies are seeing consistent earnings growth, strong fundamentals, and good prospects for the future, regardless of the broader market sentiment. There is often a tendency among investors to shy away from shuffling a portfolio in the hope that even a downturn will sooner or later lead to a shift towards an upward trajectory. Instead, riding a downturn with a shuffle in the portfolio would be a better choice. 

Be an Active Investor 

In active investing, market corrections or periods of stagnation provide an opportunity to reassess and reposition your portfolio. It’s a time to shuffle investments and move capital into sectors or businesses where growth prospects align with more attractive valuations. During market downturns, some businesses may become undervalued, creating opportunities for investors to shift focus to industries or companies that offer better risk-reward ratios. For example, if certain sectors become overpriced due to market sentiment, it may be wise to reallocate funds to areas where growth potential is strong but the valuations remain lower. 

During this period, the market could continue to face downward pressure, with lower highs and lower lows indicating a sustained bearish trend. However, this downtrend may eventually lead to base formation, where the market consolidates before building enough strength to reverse into an uptrend. Base formation often takes time, as the market digests previous losses, and it is during this phase that investor sentiment stabilises. Investors need to remain patient, as these consolidation periods can last longer than expected, but they provide an opportunity to identify potential entry points once the market shows signs of strength and a trend reversal.