Lower Your Return Expectation

In the world of investing, it becomes very difficult to avoid the recency bias.Investors, while making their financial plan, extrapolate the recent returns. The recency bias is more prominent among millennials or those who have started investing recently. They do not have the experience of going through different cycles of returns. They believe that the current returns will continue in the future too. Nevertheless, returns from investment always revert to mean. Currently, about 400 equitydedicated mutual funds are giving average SIP return of 27.2 per cent for the last three years. 

Compare this with the average SIP return of 16 per cent for five years and 10.64 per cent for 10 years. This shows that in the long term you cannot expect the recent returns to continue. Recency bias can lead investors to deviate from their carefully laid investment plans, which can have damaging long-term consequences to their finances and financial goals. For example, in 2019 there were many funds such as Quant Small-Cap Fund and PGIM India Mid-Cap Opportunities Fund that were giving negative SIP returns for a period of five years. The same funds are now giving SIP returns in excess of 30 per cent for a period of five years.

So, if you would have selected these funds for any reason at that time and assumed them to generate similar returns, you would have made more investment in these funds than required. The takeaway is that short-term market moves caused by recency bias can determine long-term results, making it more difficult for investors to reach their financial goals. Hence, take a broader view of how the markets tend to move over time and the larger trends instead of short-term movements. Hence, the current fall in the equity market should help us to correct our recency bias and adjust our return expectation for future returns, which should be lower than what we have seen in the last 18 months.

SHASHIKANT