IS INVESTING an art or a science — this has long been a topic for debate? For an investor, the argument only adds to the ever prevailing dilemma that one is faced with in the world of savings, investments and returns. Here’s a sample of typical questions that an investor could ask: what is the right way to save money? How much do I need to save? Where do I need to invest? Who can I turn to for investment advice? How do I ensure that I can get my money back when I need it?
And if these are not complex enough, things get more complicated when one sees a boom in the stock markets or the property markets — every investor starts to “evaluate” his or her strategy and new doubts begin to appear about what they have been doing.
As in every complex problem, the solution lies in the simplicity of the investing process. There is no “one” right way to create an investment strategy and every investor needs to follow the same simple rules for success. An investor needs to focus not on the short-term direction of the market, nor on finding the next hot investment idea or the next hot fund. The key to a sound investment strategy is to have a sensible asset allocation across stocks, bonds & cash reserves.The choice of how much money needs to be allocated to these three categories should be a derived from two simple thumb rules — what’s my risk appetite and how long do I have before I need to draw upon my savings pool. A young person, say 25 years old, just starting out on a career, should keep a higher mix of stocks than bonds and cash — typically 75% or more and a person closer to retirement say at 55, would have to reverse and have 25% or less in stocks, with various other combinations across other age groups. The next question is how does one get exposed to stocks and bonds? There is always the option of building up your own stock and bond portfolio — but the best option is to rely upon professional money managers who offer mutual funds that invest across these categories of assets. Key criteria in selection of funds have to be based on some simple thumb rules such as the manager’s investment track record, risk and investment objectives and finally, costs of the fund. For instance well diversified equity funds have lesser risk than “hot” sector funds.
One of the biggest follies of investing is that more often than not, investors try to put in a lump sum amount in a fund, driven most often by the desire to make extra profits. One of the safest ways to invest is to make a regular savings plan where you invest a smaller amount at regular intervals and let the portfolio accumulate over time. This smoothens out any risk related to timing of the markets. This can typically be done by using the systematic investment plans (SIPs) offered by most mutual funds and gives the investor the power of easing out the timing risk. Consider this — if you make a Rs 10,000 initial investment, with a 10% annual rate of return, over 10 years, this would grow into Rs 26,000 — more than 2.5 times your initial investment. One has to give the portfolio plenty of time to mature — staying away from the temptation to make regular entries & exits — and instead choosing to focus on the long term investment objectives.
It sure feels like a pleasant summer or a spring day when we have a bull market, but let’s not forget there’s also a fall and winter. We must be prepared to face the change in seasons as it surely will change. In the long run, your investments will survive and prosper across all seasons if you continue to follow the simple rules of investing. In summary:
We must save & invest:
The biggest risk in an investment strategy is that of not saving or investing — inflation will eat away your capital, leaving you with much less with each passing moment.
Time is our friend:
Regular incremental savings combined with the miracle of compounding are the best. Every investment plan has to be suited for the long run.
Timing is our enemy:
If we eliminate emotion — especially greed and fear — and stay with the disciplined process of following the strategy — we are most prepared to face any eventual “winter” season
Stay the course:
No matter what the environment, we must follow our simple strategy of asset allocation along the principles laid down above.
We might be going through a winter in our financial markets currently. In the long run, however, our economy and markets have a bright prospect and we have to let our good judgement and sound-investing process takes over the emotions of fear (just as we have to control greed in times of euphoria). We have to continue to follow our simple plan and let markets take their course. Investing is neither an art, nor a science. It’s a set of simple rules. The secret of all seasons investing is that finally, there is no secret.
