21 August 2015

How can Narendra Modi help improve your Investment Portfolio?

Now here is something for you to think about. What would happen if the current Prime Minister of India, Mr. Narendra Modi became an investor?

I think he would be a really savvy investor focusing more on growth investing and less on value investing. But irrespective of the type of investor he becomes, there are 2 very important things which he has said, and which can be used in the context of investing.

Narendra Modi Investing India

And those things are the two calls for action given by him:



Now the second one may not seem like something relevant. But please hear me out for some more time.

I know you have made an online portfolio tracker, which you check regularly. Almost daily.

Don’t worry. It’s your portfolio and you have every right to check it as many times as you want. You can even do it on an hourly basis. No one will stop you. So open your portfolio and have a look at all the stocks you own. And here, I am talking about your investment portfolio and not the trading one. I assume you have two different ones. :-)

Now you need to find out two things. And I want you to be really honest with yourself.

The first thing is…

To look for stocks, which you bought at really high prices and which are now trading at a fraction of your purchase price.

Found some? Great.

Though I might be generalizing, but chances are high that you are waiting for these to come back (atleast) upto the purchase price levels – after which, you will sell them. Sounds right?

Now this approach is fine if the business behind these stocks is doing great and is a sustainable long-term business. But if the business in itself is not great (like airlines, etc.), or if the management is driven more by ego and less by common sense, and regularly ends up borrowing thousands of crores (and which they in no way can ever pay off), then you are only hurting yourself by waiting.

So for all practical purposes, the probability of share prices of such business, going back to the levels at which you bought them is very low.

So here is where Mr. Modi’s first call-to-action comes.

You need to #Give It Up.

You need to give up the hope that stock of that not-so-great (or honestly speaking, shitty) business will ever come back up. Book your losses. Move on. And invest in better businesses.

Please do it. Because if you don’t do it, you are losing out on investing in far superior businesses which might be available at bargain prices.

Now lets see what the second call-to-action by our PM can do for your portfolio:


Now I will modify that a bit:

#Clean Portfolio

(For those who don’t understand Hindi, the word ‘Swachh’ means ‘Clean’ in English)

Once again, I request you to have a look at your portfolio tracker.

Do you see more than 15-20 stocks?

Have you bought most of these in recent times? In less than a year or so?

Then I will assume that you are up-to-date with all the important developments and data about all those 15-20 businesses. Not stock prices. I am talking about the actual businesses.

Am I right in my assumption? Are you really tracking how the business behind the stock is performing?

If you did not answer the previous question with a ‘Yes’, then it means that you are doing something similar to making blind bets in the game of cards.

You are putting your hard-earned money in something which you don't understand completely. Doesn't that sound stupid? 

If it doesn't, then best of luck with that guys!! It is a mistake similar to this one.

Now it’s possible that some stocks in your portfolio are quite old and big-multibaggers. And hence, you don’t need to worry too much about them. In such cases, ignorance might not be very dangerous.

But if you are buying stocks frequently, even though with an intention to hold them for long term, then you don’t want to create a zoo within your portfolio. Isn’t it? Some great investors like Peter Lynch were able to do it. But please understand the importance of the word ‘great’ in previous sentence and how applicable or non-applicable it is on people like us.

So give your portfolio a clean up. Only keep a manageable number of stocks in your portfolio. And by manageable, I mean a number only those many companies, which you can actually understand and track regularly. And by tracking, I don't mean tracking price movements. I mean tracking the developments in the industry and company's own business. 

So Go on. #GiveItUp and have a #CleanPortfolio.

7 August 2015

Case Study - How Wrong Assumptions Can Destroy Your Happy Retirement Plans?

So you have finally realized that it is high time that you start investing for your retirement. And to help you with your planning, you have decided to make use of free-online-retirement-calculators.

The beauty of online calculators is that it is very easy to input a few numbers and see the results instantly. But the ease and convenience of using an online retirement calculators, should never undermine the importance of retirement calculations.

What I mean to say here is that just because of it is easy and you are using a few text-bookish assumptions,it does not mean that the magic number thrown up by the calculator is sacrosanct. And in most of the cases, it might not even be correct. You should always question it. Always.

Think of it. Are you willing to blindly follow an action plan set up (for the next 25-30 years) by an online calculator? Are you willing to take a risk on something, which will give you money to survive for 20-30 years after you have stopped earning? Its a big bet and requires you to take a really big leap of faith. And ofcourse, it is very scary.

Just imagine that a calculator tells you to save Rs 2 Crores (Crs) by the age of 60 years. And you diligently save and invest and somehow manage to accumulate Rs 2 Crs by the time you reach 60. Feels great.

Now when you started investing in your 30s for this corpus, the online calculator had an inflation assumption of 5%. In reality, it turned out to be 6%. Another assumption made by calculator was earning 8% annual returns on the corpus after retirement. In reality, things changed and safe bank FDs, where you had decided to park most of your money started giving just 5% annual return. The result…is that you are screwed. And screwed when? When you hit the age of 70 or 75. You have exhausted your corpus, not because you did not stick to your investment plan. But because situations changed and assumptions in your retirement planning calculator, did not remain completely valid in future.

Seems scary to run out of money at 75. It’s just like you run out of oxygen when you are doing deep sea diving and are 100 feet deep in water!

I am not saying that one should not use retirement calculators at all. All I am saying is that it is very important to understand that ‘Assumptions’ play a very big role in all retirement calculations.

Now these assumptions are also of 2 types.

First are the assumptions about the ‘Uncontrollables’. Things you cannot control. Some examples of these are assumptions made for return percentages, inflation, etc. You can do nothing to control these factors. You can only hope that your assumptions remain as close to reality as possible over the years.

Second are the assumptions about the ‘Controllables’. These are the factors which you can control atleast partially (if not fully). Some examples are your starting investment amounts, yearly increase in investments, etc.

In this post, I will simply focus on the assumptions we make about the Uncontrollables. And more specifically, lets focus on assumptions about the returns we expect to earn from our investments over the accumulation phase of retirement planning.

Now do this small 15-second exercise:

Close your eyes and think of a number (in percentage), which you think is most popular when people discuss about the expected returns from MF investments.

Thought of it? Great.

Personally, I have heard numbers ranging from 15% to 25%. Though I would personally love to get 25% annual returns, the fact is that it is not going to happen. No matter what anybody says, earning 25% every year is impossible. An annual return of 25% means doubling your money every 3 years. We need to be realistic and stop listening to brokers and agents.

So if 25% is bull shit, then is 15% fine? Honestly, it seems achievable. And there have been funds, which have done even better than that in past.

So is 15% a good assumption to make when doing retirement calculations?

It might be. I personally think that it is manageable in the long run. But common sense says that when I am making assumptions for future, I should be cautious.

These days, many people are talking about margin of safety (MoS). But mostly these people are using the term MoS, when discussing about individual stocks and value investing. But I feel that margin of safety is something, which should not be restricted to investing in stocks alone. It should also be considered when planning for your retirement.

But what is happening is that when it comes to personal finance, there are many who just blindly expect MFs to deliver 15% to 20% for next 25-30 years! I am not saying that it cannot be done. But I can bet that it will not be achieved by 99% of those who claim that it can be easily achieved. And I can bet my entire retirement corpus on it. :-)

So lets come back to our case study:

Now 15% can be done. But when calculating the corpus needed for my retirement, I will take a much lower number. Say 12%. This straight away gives me a buffer of 3% to be wrong. So even when I am investing with 12% assumption, it is possible that luck favors me and I manage to earn 14% return. Will I mind it? Not at all. I love positive surprises. And who doesn’t?

But if I start investing with a 15% assumption, and I end up with returns of 13%, I will have trouble in my retirement years. And that is what I don’t want.

So with assumption set at 12%, lets do some number crunching. I will only share the findings and not the exact calculations to keep it simple.

Also, I will be tweaking the 2nd and 3rd scenarios for different rates of returns within the investment life. This is to bring these calculations closer to reality. So for theory and comparative background, you can read the 1st scenario. But focus more on 2nd and 3rd scenarios.

Scenario 1:

Current Age = 30 years
Retirement Age = 60 years
Accumulation period = 30 years (60 – 30)
Starting yearly investment = Rs 60,000 (~ Rs 5000 monthly)
Expected Average Annual Returns = 12%
Planned Annual Increase in Investments = 3%

Simply put, the expected rate of return in this scenario is 12% for the entire 30-year period.

The result is a corpus of Rs 2.31 Crores at the age of 60 years.

But lets make this more interesting. Lets split this 30-year investment period into 4 sub-periods:
  • Period 1 – when age between 30 and 40 years
  • Period 2 – when age between 41 and 50 years
  • Period 3 – when age between 51 and 56 years
  • Period 4 – when age between 57 and 60 years
Now an important point to note here is that returns earned in each of these four periods can be different. But in this first scenario, the returns have been put uniformly as 12% for all four periods spanning 30 years. The scenario is summed up in table below:

Retirement Corpus Planning 12%

As already mentioned, this is a good theoretical scenario, which assumes that returns over a 30-year period will be about 12%. Though it is theoretically correct to assume an average figure across a long period, I still feel that later years (after the age of 50) are way too far in future to be predicted correctly.

So to create a more realistic scenario, it makes sense to reduce the return expectations in later years.

Lets try to do this in second scenario.

Scenario 2:

A slightly more realistic assumption in later years is depicted in table below. The impact of lower returns is that one ends up with a lower corpus at the age of 60.

Realistic Retirement Corpus Planning

You might say that this exercise is just like assuming a lower than 12% rate of return for the entire 30 year period. And you are right in saying so. But its tough to make people believe that even MFs can give lower returns than 12% in later years. Just try telling this to someone who is already convinced that MFs will help him reach his retirement targets with ease, and you will understand what I mean.

We need to understand that the situation after 30 years is very far off in the future. And we have absolutely no way of knowing what will happen then.

Today, a return of 15% might look like normal. But we can never be sure whether the same 15% will be a normal thing in 2040 or not. It’s possible that the new normal might be 20%. And it is also possible that the new normal might be 12%. No one knows.

But when calculating our retirement corpus in future, it’s prudent to make assumptions of returns on the lower side, and those of inflation on the higher side.

So this 2nd scenario stands as follows:

Current Age = 30 years
Retirement Age = 60 years
Accumulation period = 30 years (60 – 30)
Starting yearly investment = Rs 60,000 (~ Rs 5000 monthly)
Annual Average Returns = Varies in 4 different period as shown in table above
Annual Increase in Investment = 3%
Retirement Corpus = Rs 1.60 Crores

That’s a cut of almost Rs 70 lacs!! (Rs 2.31 Cr – Rs 1.60 Cr).

Is this it? Can it get any worse than this?

The answer is it might. Lets take up the 3rd scenario now.

Scenario 3:

I know you will abuse me for such a pessimistic 3rd scenario. But here it is:

The returns in future keep going down to 5%. So between 30 and 40, returns are 12%. The next 10 years see a return of 10%. And the remaining 10 years see 8% in initial years and 5% in latter years. And the corpus? It comes to a paltry(!) Rs 1.27 Crs.

Sounds horrible. Right? Just a few percentage points lower in later years and the portfolio (as well as you) end up getting screwed!

Can you take this risk? The risk of having lesser money than what you expected after 30 years of investing?

I would not want to be in such a situation. And for that, if it means lowering my expectations and investing more, then so be it. I will do it as much as I can within my limitations.

Another assumption, which I have made in the above scenarios, is that every year, I am increasing the annual investment by just 3%. Though I have done extensive analysis of how you can become really rich by increasing you annual investments by 10%, the fact is that it is easier said than done.

Our salaries might get a 10% hike every year. And assuming a 6% inflation, we should theoretically have no difficulty in increasing our investments by even more than 10% every year. But no matter how well we plan, there are bound to be unforeseen, additional and recurring expenditures arising every year. A big electronic purchase which was pending for last few years (though even such purchases can be planned wisely), foreign trips (Yes. Trips can be planned too), unnecessary luxuries, etc.

And that is the beauty of expenses. The expenses have a bad habit of beating income increases every year. :-)

A 3% increase is not recommended and is in fact very low. We should target a higher percentage every year. But since the theme of this post is pessimism, lets keep the annual investment increase at just 3%.

So till now, we have discussed that it’s an interesting (and useful) exercise to expect lower returns in later years of investment lives. So what should one do?

Suppose we take the corpus accumulated in 1st scenario as the target. That is, we need to have Rs 2.31 Crs at the age of 60. And for returns, lets take the expected rate of returns from the 3rd scenario:
  • 12% in Period 1 (30 and 40 years)
  • 10% in Period 2 (41 and 50 years)
  • 8% in Period 3 (51 and 56 years)
  • 5% in Period 4 (57 and 60 years)

So assuming that we need Rs 2.31 Crs at the age of 60, and with above given expected returns, how much should be the monthly investment?

That is the question, which we need to answer to complete this case study.

Now here, there can be two ways of achieving it.

First is where you start with a higher initial monthly investment (>Rs 5000 per month or Rs 60,000 annually) and increase it at the above discussed low rate of 3%.

Second is to start with Rs 5000 monthly investment (Rs 60,000 annually), but grow your contributions at a higher rate every year.

Here are the details of the first option.

Scenario 4:

Retirement Planning Higher Initial Amount

As you can see the table above, you need to start with a monthly investment of Rs 9100 instead of Rs 5000 (as in Scenario 1) and then increase your annual investments by 3% every year to reach your goal of Rs 2.31 Cr.

But what if you want to start with the same Rs 5000 every month? That brings us to the second option.

Scenario 5:

Retirement Planning Higher Annual Increase

In this option, you can start with a monthly investment of Rs 5000. But then you will have to increase your annual investments by 8.5% every year to reach your goal of Rs 2.31 Cr, given the lower return expectations set in 3rd scenario.

Now lets try to take another view.

I know the post is getting quite long. But please hear me out for some more time.

I am sure many of you would be saying that as soon as we approach the last decade before retirement, we should theoretically start moving away from equity MFs (the only one capable of giving 12%-type returns). But problem with moving away from an equity biased portfolio by the age 60 is something related to medical advancements! Yes. Don’t be surprised. Please hear me out.

What I mean to say here is that our generation has a higher probability of living upto 90 and 100 years of age than any of the previous ones. So if you completely move out of equities by 60, you will still have 30 post-retirement years to earn something on your already depleting portfolio. Isn’t it?

And I am sure to hurt many retirement planners when I say that even after reaching 60, one should keep a significant percentage of overall corpus in equity MFs. But having said that, consideration also needs to be given to a person’s risk appetite and not just the logic of higher life expectancy, which I gave above. But I guess that discussion is best left for some other day.

So that’s it for this post. Hope I was talking some sense in this post. :-) Please note that I have made return calculations in straight line (using % mentioned as expected returns). In reality, stock markets and mutual funds have volatile returns. One year might give 40% and other might give (-) 20%. And there can even be instances where there is Zero growth for 5 straight years! Almost anything can happen. 

The impact of case studies like these is that I am slowly but steadily lowering my return expectations. And this consequently, forces me to increase my contributions slightly with every such lowering-of-expectations-exercise. So think about what you just read above. And if you have some really high Buffett-type returns expectations from your investments, its time to get realistic about it. It is your retirement after all, not Warren Buffett's. :-)

24 July 2015

My Wife – The Value Investor (of Precious Metals)?

If you are married, the news of gold and silver prices falling would not come as a surprise to you. Your wife would have already told you about it. And I am no different. I have least of interests in precious metals. But things are different when it comes to my wife.

"The gold prices are at multi-year lows!! So are the silver prices!!"

This is the first thing I got to hear when I came back home in evening today. And unsurprisingly, I knew what was coming after that statement…

“Shouldn’t we buy some gold and silver for future?”

Immediately, I was on the back foot. I was trying to duck a full-fledged bouncer hurled at me at 160 mph!

And the scorecard read:

Couple's Investing Scorecard

My response: “Gold neither gives any interest nor any dividends. And even Warren Buffett doesn’t like buying gold.”

Couple's Investing Scorecard

Wife’s response:So once again your Mr. Buffett enters our personal lives. Since when did you start listening to him in matters of gold and silver?”

Couple's Investing Scorecard

Dev: <Thinking what to reply>

Wife: “Now see, it has been years since gold and silver prices came down so low. Why can’t we buy some? After all, gold has a lot of value.”

Couple's Investing Scorecard

Dev: “But I still think its best not to buy these precious metals as investments. These are a type of insurances and not investments. We will anyways not sell it when it goes up in price. Isn’t it?”

Couple's Investing Scorecard
<Never give theoretical gyan to your wife. It is worth only half a point.>

Wife: “See? You haven’t even bought it and you want to sell it. You don’t like selling stocks even when they go up, do you? Then why should we sell gold when it goes up?”

Couple's Investing Scorecard

Dev: <Thinking what to reply>

Wife: “And will you sell my jewellery when prices of gold go up???”

Couple's Investing Scorecard
<that question is worth extra point. Married men know why>

Dev: “Not at all. All I meant was that we already have sufficient exposure to precious metals at the overall portfolio level. We don’t need to add more to it.”

Couple's Investing Scorecard
<Again giving theoretical gyan>

Wife: “Now I don’t know what you are talking about. But being from the jewellery industry, I know gold and silver are cheap right now! And we need to buy some now. Lets buy a little and I am sure it will not hurt your portfolio too much.”

Couple's Investing Scorecard

Dev: “But jewelry is not an investment. Can’t we buy coins instead of bangles, rings, etc.?”

Couple's Investing Scorecard

Wife: “What do you want me to wear in my ears – coins?”

Couple's Investing Scorecard

Dev: “Let's go. Let's buy some right now or prices might go up soon!”

Couple's Investing Scorecard

End of Story.

Disclosure: We bought some gold and silver today. Wife bought jewellery and I bought raw metal.

Final Scorecard? I guess you all know it. But in reality, I was more than happy that it was not a big innings defeat. ;-)

PS – Sometimes our investments (or expenditures) are more about the people who matter to us and less about returns we get from those investments. Coincidently, I had read this post by Rohit a few days back and never expected that something similar was to happen with me today.

20 July 2015

An Open Letter to my 18 Year old Self

Letter To Myself Investor

Hi Dev

Congratulations on officially becoming an adult now. I know how relieved you would be feeling having completed your school education – which in any case, you did not like very much.

Before you start wondering who I am, let me introduce myself. I am your future self – 12 years in the future to be exact. No don’t worry. I don’t have a terminator-like mission to protect you or something. And I am just future-you, writing this letter to you while sipping a hot cup of coffee at 12 midnight.

I don’t know what you will do in future – may be you will do your engineering, work for some energy company, do a MBA, then work for a bank, etc. – I don’t know. But to be honest, I actually know it. But let life surprise you. I am not telling you.

But one thing, which I do know is that you really like getting involved in managing money and helping others, do it. It sounds ridiculous to take advice and listen to an 18-year old. But I don’t know why my (our) parents and others do it.

I know you don’t want to listen to all this but there is one important thing which I want you to know. I am sure you know it theoretically – you were pretty good in mathematics. But what you do not know is how it can impact your future financial life. And I want to tell you all this because you have recently started dabbling in stock markets. Luckily our parents have been very supportive of you doing it. But there will be many others, who will tell you that it’s a place where you will only loose money. My advice: Ignore them. They are all full of noise Dev. Just ignore them.

Stock market is the place, where if you are diligent in your groundwork and have a sensible head that has the ability to cut down noise, then you can make truckloads of money. But when I say cut the noise, I also mean that you need to find sensible people to listen to. And you don’t necessarily need to meet those people. Many of them are already dead. But you can read what you they have already written. So get those books. Don’t wait too much. Read those books even if you don’t understand them completely. Because the next time you read it, you will understand it a little more.

But lets not waste more time. I know your friends are waiting for you to join them for a bike ride. :-)

So Dev, when I said that you know the mathematical concept, I was referring to the concept of compounding. I know you know it and how the calculations are done. But before you run away, listen to me.

Do you know how much returns can stock markets give? Great investors can manage above 20% for decades. But we are not great like them. So lets be sensible and pick a number that is much lower. Lets take 15%. Now the next two statements will tell you what I really wanted you to know.

If you can just invest Rs 5000 a month for next 12 years, then do you know how much you will have when you reach my age? More than Rs 20 lacs Dev!

You might say that Rs 20 lacs may not be a big amount after 12 years. But I know it Dev. It is a big amount. And it is still better than having nothing at all. Isn’t it?

And just think about it. Isn’t it a big number to achieve considering you only have to put aside a small amount of Rs 5000 every month? I know. Initially it might seem tough to find that amount of money. But as you age and start earning yourself, you will find that it is not tough.

And you know what? You can earn much more than 20 lacs if you can just increase your monthly investment amount every year!! You might even be able to save 35-40 lacs!! Sounds awesome. Great! It will feel much awesome(r) when you have that amount when you turn 30. I can swear that. I should have done it myself when I was at your age. But I had no one to tell me all this. But please don’t repeat my mistake of underestimating the power of investing small amounts. It can cost you a lot when you grow older.

You might feel that you can make a lot more money by investing directly in stocks. Yes you can. And I am not saying that you don’t invest in stocks. Do it. It’s a good learning exercise. But at the core of your investment philosophy (which you should have in place by the time you are 30), should be to invest as much as possible every month through mutual funds. And if you do recognize a good, sustainable, business that is selling at sensible valuations, go and buy truckloads of its shares? If you can’t buy truckloads of it, accumulate it slowly and steadily till the valuation remain reasonable and business remains attractive and growing.

I know I am using big words like ‘valuations’, ‘sustainable’, etc., which you might not understand completely at the age of 18.

But don’t worry.

Just focus on Compounding. And go and do a Google search for what Einstein (your childhood Physics hero) had to say about Compounding (link). Yes Dev. Even he knew what compounding could do.

But this is getting really long now. And I better get some sleep now. Have finished my coffee long time back. And my wife has already called me twice. Another advice Dev - Always respond to your wife before she needs to tell you something for the third time. :-)

But jokes apart, future is always bright. It is what we should atleast choose to believe. In life as well as in investing. You are just entering the most exciting phase of your life Dev. And remember that though its good to have money (which I am sure you will make using the concept of compounding), it is not the most important thing. I will not tell you what is the most important thing. You will figure it out yourself in next few years.

All I can tell you is that you will meet some amazing people in next 12 years. Some in person, and more of them in books you are going to read. So keep a sane head. Never let your ego do the thinking part for you. Brains have the responsibility of doing it. Stay calm and be stable. This reminds me of something Dev. The word ‘Stable’ will mean a lot to you in years to come. No. I can’t tell you anything more than that.

Now go and get hold of your friends for that bike ride.

Be original,
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