Why You need a Long Term Investment horizon?

In today’s volatile environment which largely stems from economic uncertainties from global markets, be it the Yuan devaluation some time back or Brazil being downgraded to junk or the September Fed meet on which everyone had an eye which resulted in no rate hike at the moment. The thing which most investors lose focus on is something that is called as long term investment perspective. By investing for the long term one will not try to time the market. Nobody can. We all know the simple rule of investment – buy at low and sell at high but invariably we tend to do it the other way round.

While focusing on short term we tend to buy stocks which have all the positive news around it and little do we realize the half of the time that news has already been priced in. If we focus on the short term our investments are bound to react to events in the short term both positive and negative. Whereas if we focus on the long term the returns will be impacted less by volatility and more by the performance of the investment instrument.

As per tax laws holding stocks beyond one year is categorized as long term but when it comes to investment an investment horizon of 3 – 4 years or more can be considered as long term. On the other hand when it comes to real estate it is far beyond that. Gold is another asset class but again it depends in which form it is held, whether in physical form as ornaments or in the form of ETFs.

Historical data also shows SENSEX had jumped 250% from April 1991 to March 1992 on the back of Harshad Mehta scam. He took crores of rupees from the banking system and pumped it in the market. The scam came to light when the State Bank of India reported a shortfall in government securities. That led to an investigation which later showed that Mehta had manipulated around Rs 3,500 crore in the system. On August 6, 1992, after the scam was exposed, the markets crashed by 72 percent leading to one of the biggest fall and a bearish phase that lasted for two years.

Similarly, from April 1999 to March 2000 SENSEX rallied 35% on the back of improving macroeconomic scenario – improved GDP numbers from growth in manufacturing, infrastructure and construction sector, falling inflation, healthy forex reserves and good industrial production numbers as against the year before and also the technology bubble was engulfing the rest of the world.

Again SENSEX fell 27% in March 2001 when the Ketan Parekh scam took place. A chartered accountant by training, Parekh came from a family of brokers, which helped him create a trading ring of his own. Be it investment firms, mostly controlled by promoters of listed companies, overseas corporate bodies or cooperative banks, all were ready to hand the money to Parekh, which he used to rig up stock prices by making his interest apparent.

Again in Feb 2008 SENSEX corrected by 8% approx on the day Reliance power Ltd. got listed. It closed 17% below its cost. Sensex witnessed a fall of approx 36% from 2008 to 2009 on the back of US Subprime crisis.

Following that there was a sharp pull back in equities between March 2009 to November 2010 led by global (Quantitative Easing announcement by US) and domestic (general elections) news flow. Putting all the pieces together the message to take away is that events will keep on happening but if one keeps a long term investment horizon it will be a safer bet.

The two main factors to consider before taking an investment decision for one self are ability and willingness. It is very important to know the difference between the two. Willingness is more about the attitude towards risk irrespective of the financial ability to do so. Ability on the other hand is financial capacity to bear the risk. It depends on income of the individual, his savings and expense pattern. It depends on the amount of money which one can keep aside purely for investment and not dip into it time and again for personal needs and can hold on to it even if they are not doing good at a particular point in time.

But again the point to note here is that if a particular investment is consistently a poor performer, one should plan an exit from the same and reinvest it in another suitable option. If one is not very good at deciding which stock to invest in and what the best time to do so is, then there are professionally managed mutual funds with different investment objectives from which one can choose.

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Break your home bias; go global for diversification – article by Vishal Dhawan in Mint

Asset Allocation should also include global stocks and mutual funds as a diversification strategy is always better. Its always good to get the best of all global markets.

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Don’t park all your Retirement Funds in FDs – A case study by Vishal Dhawan

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Jadoo ki Jhappi for your finances

“Jadoo ki Jhappi” gained popularity after its clever use and depiction in the blockbuster Munnabhai MBBS. Medically the benefits of a hug have been well known for a long time with a simple hug helping to lower blood pressure, reduce heart rates and improve blood circulation, amongst other benefits. Just like a hug, some of the simplest things are likely to be the most beneficial for your health-eating well balanced meals in moderation, eating on time, getting adequate sleep, daily exercise and a daily dose of meditation. In much the same way, your financial health can also be well taken care of through the use of some simple steps. These include:

• Having a contingency/emergency fund of at least three months of expenses to take care of unforeseen job losses/medical emergencies
• A well controlled expense to income ratio ( ideally less than 65%) and loan to income ratio ( ideally less than 40%).
• Adequate life insurance to protect your family’s lifestyle in case something was to happen to the primary bread earner
• Health coverage for yourself and your dependents so that a medical emergency does not derail both physical health and financial health.
• Insurance for your home that is likely to be your most valuable asset
• A well diversified portfolio that consists of a combination of investments that have traditionally beaten inflation like real estate and equities, and assets that have fairly predictable rates of return like deposits and bonds.
• A small portion of your portfolio in gold to act as a protection for the rest of your portfolio.
• Clearly defined goals for what you want your money to do for you – education for your children, an independent retirement for yourself and your spouse, a larger home,etc
• A well thought out tax saving strategy that is aligned to your financial goals
• Undertaking an annual financial health checkup. If you believe you need professional help for this, do not hesitate to seek it.
• Avoid using products that are too complex and you do not understand
• Avoid putting all your money into a single investment type or asset class just because it has given the best rate of return in the recent past.

 

To conclude, the simple things in life are often the most effective and make the most difference, so keep your finances simple and your hug handy. Simplicity should keep you in great physical and financial health.

This article was written by Vishal Dhawan, CFP^CM 

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Can’t depend on kids in sunset yrs

Recent census data seems to indicate that the median household size is now less than four for the first time in urban India. This means that family sizes are shrinking, and over 70% of households are not multigenerational any more. As India as a society becomes more nuclear, planning for retirement becomes even more critical, with children not being a dependable retirement plan any more.

We find that most investors tend to start working seriously on their retirement plans between the age of 35 and 40. Considering that life expectancy in India is increasing rapidly and medical advancements make it very likely that we will live much longer than we currently envisage, creating a corpus that can outlive us can be quite a challenge. To put it into perspective, someone starting his retirement planning at 40 will save and invest for 15 to 20 years till he turns 60, and expect these savings to support him and his family for a 25 to 30 year period.

Most investors have certain investments in their portfolio that are earmarked for retirement. The moot question is – Will those be enough? Since a monthly expense of Rs 40000 per month today would be close to Rs 2.75 lakhs per month after 25 years assuming an inflation rate at 8%, these may just not be enough. So how does one plan to retire rich. Here’s our six step guide:

Step 1: List – Make a list of your current monthly and annual expenses

Step 2: Analyse – Critically evaluate each expense head to see whether these expenses are likely to increase or decrease post retirement.

Step 3: Inflate – Apply an appropriate inflation rate to these expenses to arrive at the likely expenses at retirement age.

Step 4: Estimate – Estimate the corpus required for the inflated expenses to support you during the period of retirement till death.

Step 5: Invest – Evaluate the amount you need to save each month/year to achieve the desired corpus. Invest the amounts in a diversified portfolio that can help you achieve the desired corpus.

Step 6: Monitor – Revisit the plan annually to ensure that it is on track.

Since the rate of return on their investment portfolio is a variable that investors can target to change if they wish to achieve their targeted retirement corpus, we strongly advise that investors look at investment strategies that, although riskier over shorter time frames, have the potential to outperform over longer periods. Investments in asset classes like equities for a retirement portfolio should be looked at very closely for their potential to deliver superior returns over longer time frames.

In addition to the quantitative aspects of retirement, we also urge investors to answer two questions when they plan for retirement

1. What would your ideal day be like when you retire?
2.  And will this continue to be your ideal day if you do this day after day?

We find that these answers are also very difficult for most investors to find, as a calculator cannot answer this for them. We urge investors to think deeply about these answers today so that they are prepared for retirement not only financially but holistically.

This article was written by Vishal Dhawan, CFP^CM 

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“Main Zindagi ka saath nibhata chala gaya…” – Great for your ears, terrible for your finances

As I heard about the news of Dev Anand’s passing away over the weekend, the first thought that came to my mind was his blockbuster hit from the movie Hum Dono –“ Main Zindagi Ka Saath Nibhata Chala Gaya, Har Fikr ko dhuey mein udata chala gaya”.  Whilst a lot of his songs were outstanding – who can forget the unforgettable hits of Guide or Paying guest, somehow this song has always remained my favorite. Maybe it had to do with the fact that I remember reading somewhere that Sachin Tendulkar had this song in his list of all time favorites as well.

Whilst it was a fantastic song and great to listen to, I believe it would have worked terribly if you constructed your financial life as per the lyrics of this blockbuster song. So how should you ideally manage your financial life

1. Articulate your life goals – Each one of us has a different list of priorities in our life, our personal vision statement if I may call it that. For one of us, it may be spending time with family at that lovely house by the seashore, for another providing his or her child the best college education that money can buy, and for someone else supporting street children and enabling them to become truly independent. If you don’t have your life goals clearly articulated yet, its time to think about them deeply.

2. Align your life goals with your finances– Whilst some of your life goals may not have any linkages to your finances, a large number of them normally do. For example, if your goal is to support street children to become independent, are you sure that you are financially free yourself and can retire comfortably? It is critical to put a number to each of these goals basis your own expectations. Do not forget the impact of inflation on these goals – Rs 40,000 per month that you spend today could be in excess of Rs 2,50,000 in the next 25 years. You may need to seek the help of a financial planner to do this exercise.

3. Rank the goals in order of importance – You will probably find that achieving all your goals may not be possible, so a process of prioritization may need to be undertaken. Try to achieve a balance between short term and long term goals. Too often excessive focus on short term goals or any one of the goals tends to compromise your overall financial wellbeing. For example, over stretching yourself on your annual holidays each year could result in a compromise on your retirement.

4. Manage the risks – Current lifestyles could expose you to health risks, life threatening or otherwise. Ensure that you have adequate life and health cover to insure your risks. Buying them early increases the chances of getting them cheaper as well as when you are in a good state of health. The gap between needs and funds can always be funded by insurance.

5. Diversify your portfolio – Use a combination of financial instruments – stocks/ equity mutual funds, bonds, precious metals, real estate and bank deposits in line with your financial goal requirements and risk appetite. The products that you buy should be aligned to deliver to your financial goals for eg avoid buying equity for a short term financial goal where you are likely to need the money in a year as equities can be very volatile over short periods. Similarly, using a 100% fixed income portfolio, though very safe, can result in your portfolio value not being able to match up with inflation.

6. Put the plan into action – Implementing a plan that is reasonably accurate is better than not implementing a perfect plan. There is a tendency to put off the implementation of the plans and then try to make up lost time by investing too aggressively. This may not be an appropriate strategy.

7. Monitor your portfolio regularly – It is extremely critical to monitor your portfolio and financial plan annually. There is a high probability that some of your life goals change along the way and your financial plan may need mid course correction. However, be careful that you don’t check your portfolio each day, as that could do you more harm than good.

As the saying goes – “Those who fail to plan, almost plan to fail”

Avoid making a verse of this wonderful song your financial plan – “Jo mil gaya usi ko muqaddar samajh liya, jo kho gaya main usko bhulata chala gaya”

Au revoir Dev Saab – we will miss you.

This article was written by Vishal Dhawan, CFP^CM 

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Don’t act on impulse during chaotic times

OVER THE last few weeks, international events have dominated the headlines with the natural disaster and its nuclear fall out in Japan causing panic in global financial markets, the West Asian crisis driving oil prices upwards, rating downgrades in Europe, news of China slowing down as per their next five year plan and mixed numbers from the US, leaving investors confused.

With the significant integration that has happened in financial markets over the last few years, tracking each of these events and its implications on your portfolio is becoming an extremely challenging task. While the most common reaction to each of these events is to act immediately, we believe that most immediate reactions on the basis of news flows ends up being sub optimal.

Think back about the investors who sold their portfolios in 2004 due to election results not being in line with what they had expected. The Sensex is up more than five times from those election day results.

So what should investors do?

• Revisit your financial goals — If your financial goals are more than five to seven years away, it may be prudent to do nothing as most events of this kind do not impact long term port-folios immediately. However, there is clearly a need to analyse each of these events to understand whether they can have long term impacts on your goals. If all of this sounds too complex, take the help of an expert who can give you an overview of the impact of these events on your portfolio.
• Brace yourself for higher inflation — As oil prices move upwards due to the West Asian crisis and commodity prices start to move up once again asJapantries to rebuild itself, get ready for high inflation rates. Prepaying loans and adding commodities — agricultural, industrial and precious metals, to your portfolio would be good ideas in a high interest rate environment.
• Focus on track records — While it may be tempting to add the most exciting idea to your portfolio at this point as prices have fallen, it is extremely important to have your monies in investments that have track records over long periods. Whether it is mutual funds or large company stocks or developers with property under construction, focus on names with track records. Stay with the tested in these times.
• Avoid getting too pessimistic or too optimistic – Emotions tend to swing wildly when asset prices swing either way. Avoid the temptation of getting too greedy when prices are up or too fearful when prices are down.
• Build truly diversified portfolios — Having a few dozen equity mutual funds and stocks and bank deposits in multiple banks does not necessarily create a diversified portfolio. Look for a greater degree of diversification — for example, adding international exposure to a domestic portfolio, debt mutual funds to a fixed deposit portfolio. Diversify across multiple asset classes.

This article was written by Vishal Dhawan, CFP^CM and appeared in the  Deccan Chronicle on 26^th  March 2011 .

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