Sunday, December 23, 2012

Why investors do not make Good Returns?

It is an accepted fact that equity as an asset class is an excellent vehicle to create wealth over long term. Pink papers sing paeans about how the Rs. 10,000 invested in Wipro in 1990 would be worth Rs.455 odd crores. The list goes on for other shares. The same holds true for mutual funds.
Consider the figures set out in the table below:-

Inception date
Value of Rs. 10,000(as on 30/11/2012)invested

at  inception
on 03/01/2000
DSP BR Top 100Equity Fund
1, 14,630 (28.49%)
DSPBR Equity Fund(*)
2, 24,153 (22.06%)
68,577    (16.07%)
HDFC Equity Fund
2, 76,571 (20.56%)
1, 11,655 (21.00%)
HDFC Top 200 Fund
2, 61,295 (22.66%)
80,913     (18.00%)
Reliance Growth Fund
4, 92,000 (25.75%)
1, 12,005 (21.00%)
(*) Dividend Reinvestment option

However, the question is: - If equity is so rewarding, then why do ordinary investors do not make the kind of money as referred to above? You will hardly come across anybody who has realized/generated this kind of wealth by just being a passive investor! Rather it is an irony that we have come across far more people who have managed to either lose money or gain very little while investing in equity. Why is this so? If equity investing is such a wonderful thing, why aren't the streets full of ordinary investors singing virtues of the stock market?

We believe all or a combination of below mentioned facts that could be responsible for investors missing the wealth creation bus:-
  • Investments are supposed to be liquidated at a point in time

Investors believe or are made to believe by their advisers/agents that since equities are volatile, they need to be liquidated to protect the value of investments. Intermittent crashes only tend to prove the point. However, the fact that markets will and recover after the crash is overlooked by the investors. The fact that in equity markets you make money not despite the crashes but because of the crashes—is usually missed by the investors. That an existing investment is liquidated only in under following circumstances:-
1. Your life’s goal has matured for payment.
2.Availability of an alternative investment which can yield more than the present one.
3.  In an emergency.
  •  Failure to see the big picture

Investors simply fail to realize that if the economy is growing, equity—being slaves of performance, prices will ultimately catch up with the underlying fundamentals.
Over the last 30 years or so the Indian economy grew by 6.20% per year. This is the real growth rate. If we add inflation to this (averaging 7% over this period), the nominal growth rate was about 13%. This growth has come in spite of the famines, wars, assassinations, bankruptcy of our economy ET all. Is there anything to suggest that the next 30 years will be different from the last 30 years?(Click to read "Fear, Greed & Panic)
  • Too much news flow/daily nav

Do we track the price of the property we have invested in on a daily basis? Or for that matter, do we follow the interest rates for the FD we made? “Yeh to long term ke liye hai” is our normal reply for other investments. However, when it comes to equities, we follow day to day price/nav movement? Thanks to the regular bombardment of price sensitive information on business channels or pink papers (whose primary objective ironically is creating informed investors).
  •  Lack of faith

Our market it is said is driven by FII money. We Indians have less faith in our own economy than FIIs. There’s been positive funds flow since FIIs have been allowed to invest in India since early nineties. We have had net outflows of FIIs money only on 2 occasions (2008 and 2011). Moreover, is it not strange that FIIs shareholding in India’s top 75 companies touched an all-time high of 21.60% as of 31/10/2012? Would this have been possible if we had not performed as a promising economy? All these years, anything that could have gone wrong with the economy has occurred viz; droughts, floods, wars, scam ET all. Despite these negative events, we have grown by roughly 15% p.a. over last 30 odd years. Sadly, FIIs have realized this but not us.
  •  Absence of goals

Investors usually make investments without any specific goals. It’s more like starting on a journey without a specific destination. We at AIMS have always advocated goal based investing. This gives a sense of purpose and hence longevity of investments. 

Sunday, December 16, 2012

Right Way

Recently we got a mandate to express a second opinion about the Mutual Fund portfolio of a prospective client which had been constructed by a “big” distribution house.

We were amazed at the logic (or the absence of it) that went behind the process of portfolio creation. There were investments in short term funds, bond funds, and gilt funds. Equity exposure was restricted to small sectoral funds and only average diversified equity funds. It was evident that the portfolio was not a client-centric one but distributor-centric. To add to the unprofessionalism  the distributor was also charging fees. We had every reason to believe that the funds recommended had been shortlisted on payout model. Fund houses that do not support extra payouts were missing from the portfolio.

We are sure this is a common story with thousands of fellow investors who are not able to get the right person for advising them on their financial present and future and end up buying or investing in products which they do not want. Today we all are hard pressed for time but it’s high time that we realize that to earn money it takes time, then why don’t we give time to select the right person to deal with our financial lives. If the above story has got you thinking then read further for a few guidelines that you can follow in your pursuit to find the right financial advisor or planner

1.    Diversify across fund managers and not across funds

Today every investor has realized that diversification is good for a portfolio. Most people have a vague idea that it means that one should invest in a large variety of stocks and funds. Can diversification be defined as being proportional to the number of stocks or schemes and nothing else? If a portfolio with 5 stocks is better diversified than one with two, then one with 50 stocks must be much better diversified than either, right? As it turns out, it isn't as simple as that. Investors who wish to keep their life simple can do fine with just three or four funds. To sum up, diversification is not a goal in itself. It has its downside and is part of your workload as an investor. One should do the minimum required and no more.

2.    Be clear about reason for  investment

The portfolio should not be based on either or basis.  The advisor cannot and should not suggest mutually exclusive recommendation. For example, short term funds and bond funds cannot co-exist. This implies that the advisor has not done his due diligence about the client’s profile. Mere “parking” funds cannot be termed investment. The portfolio or proposal should reflect the thought process of the advisor/distributor. In absence of such clarity it will be imprudent on part of the agent/advisor to charge fees—if he is charging any.
3.    Do your own homework

A little homework about the fund selection would be beneficial for the investor himself. Factors like consistency of the returns, expense ratio vis-a-vis peer schemes would give a fair idea about the intention or capability of the advisor. It has been observed that a fund with not so good financial performance usually offers higher payout to the distributor as compared to the better performing ones within the fund house. Quality is non-negotiable while price is.

4.    Do you work with an advisor or an agent

This is very important for the safety & future performance of your investments.  An advisor will always place the client’s interest before him whereas an agent/distributor will place his own interest before that of his client’s. You do not need to be an Einstein to discover this trait of your consultant. A peer group comparison of suggested schemes would in all likelihood bring out this distinction.  Moreover, it is important to note that every meeting with your advisor need not result in new investments or churning of the existing ones.

5.    Get a Second opinion

Very often an investor wants to evaluate his existing portfolio or is approached by a bank or a big distribution house with an investment proposal which he cannot refuse. It is preferable in such cases to obtain a second opinion about the proposal/existing portfolio or We at AIMS offer “Second Opinion Service” (SOS) without any obligation on part of the investor (however the only obligation is towards our fees for this service). The portfolio/proposal is evaluated based on certain parameters and opinion expressed thereon. 

The above guidelines need to be followed if you are serious and concerned about your money. The time invested initially in finding the right person for your wealth management needs will hold you in good stead as such relationships lasts a lifetime. Also remember to be realistic in your expectations from your advisor. Don’t expect results overnight as you would have to be equally cooperative and serious about the recommendations provided.

Tuesday, November 27, 2012

It's time to invest in Bond Funds

Income funds—also known as bond funds—are subject of intense discussion today. There are two schools of thought on justification of investing in bond funds—with both sides presenting their line of thinking. Issues like high persistent inflation, interest rates, lack of industrial activity and upcoming general elections in 2014 unnerve the most informed investor today from writing out the cheque for bond funds today.

Here below we make a humble attempt to make out a case for bond funds.

Any market is basically a function of demand and supply. Prices rise if demand outstrips supply and vice versa. It has been observed over last couple of years that 10Yr G-Sec yields peaked between November—December and then rallied till February –March of the next year. This phenomenon played itself out as recently as in 2011, when 10Yr G-Sec yields peaked at 9% in mid-November and then rallied till 8.15% by February. This action unfolded without any rate cuts though which is noteworthy.

RBI usually steps up its OMO (Open Market Operations) towards the latter part of the financial year in order to cope with liquidity crunch in the system owing to seasonal leakages during the festive season.

OMOs are nothing but RBI buying Government bonds and thereby infusing liquidity into the market.

Having said as above, we believe the odds are presently in favour of a rally in bond market—rate cuts or no rate cuts—as in last 2 financial years.  A rate cut will be icing on the cake.

A look at the demand supply dynamics in the G-Sec segment:-

After the auctions scheduled for this week, the gross supply left is roughly Rs. 1, 09,000 crores. The demand may come in from the following categories:-

1.       Reserve Bank of IndiaDemand of Rs. 60,000 crores

Market expects a minimum of Rs. 60000 crores of G-Secs to be mopped up by RBI through OMO (Open Market Operation). Presently the liquidity deficit in the Indian market is expected to be around Rs. 1, 15,000 crores, owing to seasonal factors. This is far in excess of the comfort zone of RBI at Rs. 70,000 crores. (The comfort zone is 1% of NDTL which is Rs. 7 lac crores). NDTL stands for Net Demand and Time Liabilities.

2.       FIIsDemand of INR 15,000 crores

Indian Government is expected to increase the FII limit in G-Secs and corporate bonds by another $5 billion each. FM has expressed his desire for INR to appreciate. Subsequent to his assuming office and backed by flurry of “reform” measures announced thereafter saw INR rally to Rs. 51.80 levels in early October2011 levels from INR57.25 in June 2011, falling

to INR 55 levels thereafter. It is therefore reasonable to expect Government to step up efforts to attract capital flows to stem the slide of INR. Hence, we can conservatively estimate a G-Sec demand of Rs. 10-15000 crores coming from FIIs.    

3.       BanksDemand of Rs. 40,000 crores

The current deposit growth by banks is 13-14%. If they end the year maintaining this growth rate then they have to mobilize Rs. 2, 50,000 crores of deposits till 31/03/2013. Even if they buy 25% of these into SLR, it generates an additional SLR demand of Rs. 60,000 crores. Of this, even if we assume they buy G-Secs worth 2/3rd of this incremental demand, there’s a demand of Rs. 40,000 crores

The total demand as listed above adds up to Rs. 1, 15,000 crores against a supply of only Rs. 1, 09,000 crores.—enough to exhaust the entire supply of government papers.

Further, likely demand from insurance sector, provident funds, and mutual funds have not been considered in the above—which will only further increase the demand. The analysis holds even if additional liquidity leakage of Rs. 20-30000 crores happens till 31/03/2013.
Given the above, it is clear that while rate cuts may be required to sustain a bond rally in the time ahead, they are definitely not needed to get the rally started from here on. The supply, or the lack of it, alone is enough to start the rally from here; and in the very foreseeable future. If investors believe the logic given above, then those still on the sidelines have every reason not to continue to wait any further.

The views expressed above are personal views of the author. This article is based on information already present in public domain. Neither the author, nor his firm nor any of his representatives shall be held responsible for any damages, whether direct or indirect, incidental, special or consequential including lost profits or lost revenue that may arise from or in connection with the use of the information. 

Thursday, November 22, 2012

Child's Education--Delay will be Very Costly

It is human nature that we strive to meet immediate financial needs and postpone the one which are still some years away. Impact of postponing a future need—how so ever important—will ultimately prove to be expensive/costly—both financially and psychologically—is something we do not give a second thought to.
When the day of reckoning arrives—we blame everybody but ourselves. For example, milestones like children’s education or our own retirement are events we do not seriously think about as they are future needs. The fact that you should think about retirement as soon as you start working is more often than not given a miss. “It’s too early to think about retirement” is the most common phrase we hear when we talk about retirement to our clients.  Most people start looking for funding when their children are very close to their higher studies. The hard truth is that you don’t have much choice when it comes to your child’s education. No parent in this world likes to compromise on their children education—and if they follow a disciplined approach to building a corpus, they need not compromise. In absence of shortfall in funding, the difference is usually made by transferring funds from the retirement corpus (PF/EPF Gratuity etc.)

Even if you postpone the planning for your child’s education by 5 years, then be ready to shell out double the amount to accumulate the desired corpus within a definite time frame. Consider this:-

·     If you have 15 years to plan for your child’s future, you should save Rs. 57,000 a year or Rs. 4,800 a month.
·     If you have 10 years in hand, you need to save Rs. 1.20 lacs (Rs. 10,000 per month) to accumulate the same corpus.
·     However, if you have only 5 years to accumulate the desired corpus, then be prepared  to shell out Rs. 3.35 lacs a year(Rs. 28,000 per month) (See table below)

Time to goal
Asset Allocation
D/E Ratio
Expected Returns
Annual Savings (Rs)
Child 1
Rs. 20 lacs
5 years
Bond Fund/Large Cap Equity
Child 1
Rs. 20 lacs
10 years
Bond Fund/Large Cap Equity
Child 1
Rs. 20 lacs
15 years
Bond Fund/Large Cap Equity

Less time on hand implies that you cannot take risk and hence you have to invest in securities which are safe and thereby compromising on returns. (Read Virtues of Long Term)

Less time also restricts the choice of options available to plan for desired corpus for a milestone as important as your child’s education.

Asset allocation plays a very important role in any investment strategy. The success or failure of an investment strategy depends on the asset allocation one adopts. It is often said that a successful investment strategy is 10% timing and 90% proper asset allocation.
If the asset allocation is skewed in favour of fixed interest securities (bank FDs etc.), chances are that you will fall short of target corpus (since inflation nibbles away a part of your meager returns). If however, the asset allocation is biased towards equity, then a crash in equity markets near to your deadline mazy force you to postpone your encashment or make good the shortfall from other sources.

For the purpose of calculations, we have assumed that bond funds will return 8%CAGR (net of tax), while equity funds will return 12% CAGR (net of tax).  For the debt portion, we advise bond funds as they give better tax adjusted returns as compared to other fixed interest securities. (Debt funds have the benefit of indexation benefit if held over a year).

The debt to equity ratio of 80:20 for 5 year time horizon should be changed in favour of equities to 35:65 or 20:80 as over long term, equities always delivers superb returns.

Parents have an affinity to buy insurance policy for children under the impression of securing their future. Insurance plans have an embedded cost structure which will reduce the overall returns. On the other hand mutual funds (both debt and equity) are better placed to offer market linked returns, with far lower costs in built into them. We at AIMS, have always favoured either surrendering your child insurance plans or make them paid up after consulting your financial planner.

Either make an informed decision yourself, or call on us to assist you in arriving at one---today

Tuesday, November 13, 2012

Why avoid Endowment Plans

Recently the writer was approached by a SDM of an insurance company with a proposal to take up agency of their company and sell insurance policies. Traditional plans was to be the focused upon. With ULIPs losing their appeal (since with cap on costs, the commission has also been reduced), traditional plans are being pitched aggressively..

Traditional plans are back in vogue. Not because they help the investors meet their long term goals, but because it pays big commissions to the agent. A traditional plan currently pays nearly 30% of the first year’s premium as commission apart from other emoluments to the insurance agent. It’s time the investor ask themselves:- Does endowment policies serve any purpose? If not are there any alternatives? Let’s try to find out.

Let’s take a hypothetical example of Anuj who is a 30 year old male—who wants to build a retirement corpus when he turns 60. His Endowment policy would look as under:-

Tenure                                                 30 years
Sum Assured                                      10 lacs
Annual Premium                                 Rs. 30,723(including Service Tax)
Maturity amount                                  Rs. 21.46 lacs(at 6%)       

The following conclusions can be drawn from the above information:-

Annual Premium outflow                     Rs. 30,723/-
Premium payment term                      30 years
Death claim payable                           Rs. 10 lacs
Likely maturity amount                   Rs. 21.46 lacs (plus loyalty bonus if any)

Let’s calculate the interest earned on this payment. Rs. 30723 paid for 30 years becomes Rs.21.46 lacs

The formula for Rate is (nper,pmt,pv,[fv],[type) where
                                                                Nper is the period of payment
                                                                Pmt is payment per period
                                                                Pv is the present value of the payment
                                                                FV is the future value receivable
                                                     Type is payment at beginning or end of period

Substituting the values in the equation for Rate= (30, -30723,0,2146000,0),R is calculated to be 5.3%. Is this rate good enough to justify your hard earned money? We believe the only reason people buy endowment plan is for compulsory savings that such plan tends to demand of them. Insurance cover is a bye product that they get—which any how is minuscule and irrelevant. It also gives the investor a mental satisfaction that they have done financial planning (?) for their family.
The basic premise of an endowment policy is insurance+returns. So let’s try to work out a combination ourselves which will be better than the endowment and yet costs less.

A.     For a Highly conservative Investor

Term Assurance for Rs. 30 lacs for 30 years---Rs. 8676/- per year.(incl. service tax)
 Invest Rs. 22000 per year in PPF for 30 years--- Rs. 26.90 lacs.
 Amount Invested: -   Rs. 30676 per year (8676+22000)      
             Death Benefit       : - Rs. 30 lacs+PPF
             Maturity Benefit: -  Rs.26.90 lacs (PPF maturity)

B.      For An Aggressive Investor

Term Assurance                               Rs. 50 lacs—Rs. 12600/- p.a.
Investment in MF through SIP: - Rs. (30000-12600) -- Rs.17400/-               
(returns assumed 15% CAGR)

Death Benefit                    Rs. 50 lacs+Mkt value of investment.
Maturity Benefit              Rs. 1.05 crores (Mutual Fund maturity) 

Hence, it is advisable for people who have taken an endowment policy to convert it to a paid up policy and divert the current premium in one of the options as above (depending upon your risk profile). However, if the term of the endowment policy is nearing maturity, then let it run to maturity.

Insurance is supposed to replace your income in your absence. It is not supposed to supplement it. Insurance is not designed to generate returns, but manage risk. There are other products for investments. People are advised not to get lured by the fancy features of the policies and exotic excel illustrations. Judge the policy by your requirements and not that of the agent’s.

Disclaimer:- The figures used above are for illustration only. The exact figure may differ from those above. Premium figures are that of HDFC Standard Life Insurance Co. Ltd.
Views expressed are personal views of the writer. Investors should use their own judgment and discretion while evaluating their requirements. It is advisable to appoint a certified planner for impartial professional advice.

Sunday, October 14, 2012

Health Care Insurance--Are you Covered for Your Retirement?

Financial Planners and advisers advocate buying insurance coverage—be it health and term—at the beginning of the career so as to lock in at a low premium. We will restrict the scope of this article to health care policy only.

But one point that is missed out or mostly overlooked—especially by the investor/insured is whether the cover that they acquire now will remain relevant in their twilight years? This coupled with the tendency of the insured to abhor high coverage in the initial years (and even later in life) usually exposes them to insufficient medical coverage.

The young people who do buy health cover and/or term plans usually slip into a sense of misplaced complacency by thinking that they have (sufficient) cover to talk about—lasting even in their retirement years.

No doubt the policy taken today will be sufficient for next 3-5 years. Whether the cover will be sufficient beyond that is debatable---because of health cost inflation. Beyond this initial shelf life of say 5 years, the fate of my health care will be in the hands of the insurance company and my financial position.(Since after the first 5 years of the job, liabilities also increase on account of marriage/home loans and other obligations). To bring home the point, say a 30 year old person takes a health cover of Rs. 3 lacs today. Assuming he retires at the age of 65 and health care inflation averages 10% p.a., his health cover requirement at the retirement will be Rs. 84.30 lacs.

Presently health care insurance is bought on under mentioned considerations:-
  • Health care insurance is one which is required mostly in post-retirement years. Hence, it’s a truly long term investment spanning over 30-35 years without any tangible returns/benefits
  • It’s a common knowledge that hospitalization costs are increasing. With the state of government hospitals in a pitiable condition presently, without any scope for its drastic improvement in foreseeable future, hospitalization expenses may become unaffordable for a common man.
So the point to ponder is how much health insurance is sufficient to financially support you and your loved ones, so that you may have a peaceful retirement life?

The answer lies in following points:-

Costs of common surgeries and hospitalization costs in India

Medimanage Research team ( has come out with a research on comparative costs of select surgeries between 2007 and 2012. The findings are as under:-

Sl. No.
% age increase


Coronary Artery Bypass Graft (CAGB)
Gall Bladder removal
Prostrate Surgery
Angioplasty (with 2 stents)
(Source: -

It is evident from above that healthcare costs have increased by 10% on an average per year. We at AIMS believe that with rising prosperity, demand for good healthcare facility will only increase at an increasing rate. Absence of government aided health care facility coupled with few good modern healthcare centers/hospitals slated to come up in near future, there will be an upward bias on healthcare costs for time to come.

Future Costs

Let’s see how healthcare inflation can blow a hole in your finances at retirement. A healthcare insurance of Rs. 4 lacs today, @ 12% inflation, you will need a sum insured of Rs. 12 lacs per member. In 20 years at say 5% inflation you will need to insure yourself for nearly Rs.20 lacs. For calculation of floater coverage assuming 50% adhoc coverage for every adult member and 10% for every child, you will need the following coverage:-

50% additional
10% additional
10% additional
Self-+Spouse+1 Kid
12 lacs
18 lacs
19 lacs
20 lacs
20 lacs
30 lacs
32 lacs
34 lacs
33 lacs
50 lacs
53 lacs
56 lacs

A middle class person would either have to “afford”, “plan” or “pray” to afford health coverage of Rs. 50 lacs+ for his post retirement years.

Is there a solution to as to “afford” or “plan” health insurance available? (Alas, we do not have any solution for “pray” except but to pray).    If there is a problem, there ought to be a solution also. Solution lies in following steps:-   
  • Healthy Living: - Healthy living is the 1st.step to your health insurance. Healthy living involves regular exercise, a proper diet plan, and avoiding ill-habits. A lifestyle covering all the aforementioned habits today is a sure way to avoid high hospital bills in future. (Read Physical Fitness for Financial Health)
  • Buy Health Insurance (re-imbursement) along with a critical illness plan (replacement). HDFC SLI Critical Care Plan is an example of the latter type of cover that we strongly recommend to our clients to supplement traditional mediclaim insurance (re-imbursement) 
  • Plan a healthcare contingency fund by way of SIP in Mutual Fund 
The following is approximate outgo for an individual aged 30 years to insulate himself & his 
family members from medical expenditures:-

Type of Plan
Sum Insured
Costs p.a.
6,000 (approx.)
Critical Care Plan
Health Care Contingency Plan
24,000 (approx.)

It is said that health is wealth. So why not insure your wealth by insuring your health. After all, you will be able to enjoy your retirement only if you are healthy (wealthy & wise). 

So to be healthy and wealthy during your retirement, be wise today.(Read :- Health Insurance--a necessity)