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SYSTEMATIC INVEST-MENT Plans (SIPs) have become extremely popular over the last few years to invest in stock markets. They allow investors to take a gradual exposure to stocks by investing small amounts every month in mutual funds or in stocks.

One of the biggest advantages of investing in an SIP is the benefit of ‘rupee cost averaging’. Essentially, what rupee cost averaging achieves is that a fixed amount of money is invest-ed each month on a fixed date, irrespective of the market level.

When the markets are at a higher level, less units will be purchased with the same amount, while when markets are at a lower level, the number of units purchased will be higher. Over a period of time, an average price is achieved which is a result of purchases at the lower and higher prices at multiple levels of the stock market.

With the outlook for the stock markets having turned negative over the last few weeks, driven by both domestic and international factors, people have started wondering if they should invest or suspend the investment plan for a while.

In our view, if you stop our investment, it will defeat the very purpose of using the SIP strategy. With the markets in the bearish trend, this is actually a good time for you to invest in SIP as you can continue to get a higher number of units at lower prices over the next few months.

Mr Warren Buffet, arguably the most successful investor of our times in his letter to his shareholders in 1997 put this very aptly in the form of a short quiz: “If you plan to eat hamburgers throughout your life and are not a cattle producer, should you wish for higher or lower prices for beef? Likewise, if you are going to buy a car from time to time but are not an auto manufacturer, should you prefer higher or lower car prices?” These questions, of course, answer themselves.

But now for the final exam: If you expect to be a net saver during the next five years, should you hope for a higher or lower stock market during that period? Many investors get this one wrong. Even though they are going to be net buyers of stocks for many years to come, they are elated when stock prices rise and depressed when they fall. In effect, they rejoice because prices have risen for the “hamburgers”, they will soon be buying. This reaction makes no sense. Only those who will be sellers of equities in the near future should be happy at seeing stocks rise. Prospective purchasers should much prefer sinking prices.”

We ran a simulation for investors who invest in SIPs during the period of Jan 2008 to June 2011 when the markets peaked, subsequently crashed and then recovered significantly. We found that even though the BSE Sensex is currently down eight per cent from those levels, SIP investors in a cross-section of funds would have returns ranging from 12 per cent to 25 per cent per annum assuming that they continued with their SIPs through this period of three and a half years ago.

Considering this empirical data, we strongly recommend that investors use this opportunity to enhance their SIPs, rather than stop or lower them. In fact, we would recommend that wealthy investors who have traditionally stayed away from SIP strategies and actively try to time the market, should also use this opportunity to do SIPs or systematic transfer plans.

This article was written by Vishal Dhawan, CFPCM and appeared in the Asian Age on 25th July 2011 .

 

 

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With equity markets currently close to 52 week high and an increasingly bearish view on the global economy, there has been a marked slow down in equity investments by individual investors over the last few months in anticipation of a correction.

However, this correction has not been forthcoming, leaving a large number of frustrated investors waiting on the sidelines.

In this backdrop, we believe that the investment strategy of individual investors may need to be adjusted to the new environment through the use of different investment strategies. While some of the strategies can be implemented by investors themselves, some of them may require profes-sional advice for which it may be prudent to use a financial planner.

Financial goal based strategies

Empirical evidence indicates that stock market returns tend to be very concentrated with an abnormally large percentage of total returns being generated on a small percentage of days. Therefore, market timing strategies may need to be used in a restricted manner. It may be more prudent to decide allocations to equities basis residual time for realisation of goal.

For example, if there are two years to go before money is required for your child’s education, it would be prudent to be in fixed income instruments, while if there are 10 years to go before you require the money, it would be a good idea to allocate funds to equities right away and reduce exposure as you get closer to the goal.

Dynamic asset allocation

Since equity markets tend to move up and down on the basis of greed and fear, a scientific process of deciding how much money needs to be allocated to equities can take the emotion out of the investing process.

This strategy can either be implemented on the portfolio by oneself, or alternatively there are products available with track records that decide the mix of equities and debt basis equity market PEs. Thus, when PEs are higher which indicate that equity markets are on the higher side, they have lower exposure to equities and as PE go down, they increase exposure to equities as equity markets have become cheaper.

Use of regular investing strategies

While regular investing has become popular over the last few years with the advent of SIPs in mutual funds, the key to success in this strategy is to ensure that the investments continue when equity markets move downwards as your average cost of purchase gets lowered during this phase. During the last market correction, a large num-ber of investors stopped their SIPs, instead of increasing them. As a result, the true benefits of a SIP did not get transferred to the portfolio returns. For investors with existing lump sums of money available, they can consider the use of Systematic Transfer Plans (STPs) wherein the funds are parked in fixed income initially, and then moved to equities gradually over a predetermined time frame. Investors could also consider the use of a value averaging strategy that increases investments when markets fall, and decreases investments when markets go up.Investors could also consider using strategies that focus on buying stocks that have high dividend yields, which tend to pro-tect the downside better when markets fall even though they may underperform while markets go up.

This article was written by Vishal Dhawan, CFPCM and appeared in the Asian Age  on  28th August 2011 .

 


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