To answer this question I did a small study on weekly Sensex returns since 1991. Here's the summary:
Total no. of observations: 891
- Returns/Declines (> -2%): 85 instances
- Returns/Declines (> -3%): 41 instances
- Returns/Declines (> -4%): 20 instances
- Returns/Declines (> -5%): 7 instances (including the decline during the week ended 2 March 07).
Investments made immediately after such a sharp drop yielded the following:
- Instance I : -4.6% (1m), -9.5% (2m), -5.7% (3m)
- Instance II : 4.8% (1m), -0.2% (2m), 0.8% (3m)
- Instance III : -3.1% (1m), -3.8% (2m), -8.3% (3m)
- Instance IV : -1.2% (1m), 2.3% (2m), 1.0% (3m)
- Instance V : 6.2% (1m), 8.5% (2m), 6.1% (3m)
- Instance VI : -4.6% (1m), -3.1% (2m), -2.3% (3m)
The results do not present a strong case for making an investment immediately after a sharp drop, as seen during the week ended 2 March 2007. So maybe its better to wait and watch for now. However, one cannot rule out taking individual stock positions, especially if some of them witness an unwarranted drop in price. I made a fresh investment in JK Lakshmi Cement on Friday.