Moneycontrol
Source: Moneycontrol.com

Why you should not be always chasing returns

Most people focus on returns and chase products that offer the best returns at any point.

Suresh Sadagopan

There was one hilarious commercial some time back from an automobile company which played on the Indian psyche of putting overwhelming emphasis on the mileage over everything else. “Kitna  deti  hai?”, was the question that the curious onlooker had asked of an incredulous protagonist – one was explaining about Rockets, another a luxury Yatch & yet another about a new generation battle tank!

But, I was not surprised; for I face the same questions from those I deal with.
Focus on the basics :   What are we trying to achieve in life? Are we trying to get maximum returns to the exclusion of everything else? If so, will it solve all the problems?

Most people focus on returns and chase products that offer the best returns at any point. There is indeed an insistent belief that high returns are something that we need to constantly strive for, to get ahead in life.  Hence, we tend to pick up the products which are “hot” or trending, at any given point.
 
The predominant majority get it wrong as they join the bandwagon pretty late – whether it is a stock market rally or a gold / real estate surge. In doing so, they typically tend to get in when the rally is well underway. In such a situation, they tend to purchase at inflated prices which will cap their upsides or worse still, set them up for potential downsides when the rally blows over.

Let me take an example. Suppose, Ramesh has bought real estate in 2012 when the markets were doing reasonably well. However, the markets have turned turtle and are offering low to negative returns since.  If Ramesh has bought property, just to ride the wave, a lot of things would have gone horribly wrong.

Firstly, the objective of fantastic return has not been met. Secondly, Ramesh has taken some loans which he is servicing and paying a high interest for an asset, which is not appreciating.   He has not considered any other parameter while investing – like liquidity, concentration risk, risk inherent in this asset, tenure, returns etc. This has been a blind investment into what is essentially an illiquid product. Ramesh wants to sell & exit – but cannot, as there are no buyers! He is now badly stuck.  Many would be able to identify with this.

People get into such transactions based on early successes. They tend to feel invincible, if the first few transactions go well. Bets go up steadily with each transaction – which is where the problem is.  Eventually when the cycle turns, they are left holding their lemons. A string of successes in the beginning is, however, a wrong teacher!

People advertise their successes while quietly burying their failures in investment.  When some talk passionately about their successes, there are many who get taken in – and the cycle of people trooping in to feed a frenzy,  gets underway.  

While moving from product to product chasing returns, we fail to consider important parameters which are equally important – like liquidity, risk-reward, suitability, tenure etc. Such dalliances hardly help in progressing towards smooth achievement of the goals.

Focus on goals :  What is important in life is to achieve the significant goals one may have.  In fact, achieving our goals in the time frames that we want is what is of paramount importance.  

The typical high priority goals are – retirement, children’s education, acquiring a home etc.  Each goal will have a certain time horizon. Investments will have to be done so that we may be able to meet the goals. Hence, the investment should be such that it is consistent with the need to achieve the goal.

For instance, if Ramesh wants to plan for child’s education, it might be a decade away. For this goal, his investments can be in comparatively aggressive assets like equities.  In this case, near term liquidity is not a concern area, tenure of the investment can be long & regular income is not necessary.

Once we decide on the instrument which has the potential for good returns, we can stay invested and not liquidate it to chase the next rainbow which appears on the horizon. Many of the assets have their cycles & those who stay invested for long, get to weather the cycles better; also, with longer tenure, the inherent risk reduces & the return potential improves. Market timing becomes less and less important, if the tenure is long.

Strategic & Tactical asset allocation :  Normally, client’s assets are allocated based on their goals, how long the client has till retirement, their risk tolerance levels & other considerations like liquidity, risk-reward of the asset, requirement of regular returns & their frequency etc.

Once the assets have been allocated as per such considerations, it should be allowed to work. For that, the assets should be allowed to remain invested for long to show desired results. That is the strategic asset allocation.

Based on the movements in the markets & based on opportunistic considerations, one may want to bring in some new assets which are doing well then & make certain changes to the portfolio. But these changes should be such that they tinker around the edges & not change the core allocation. This is a tactical asset allocation to potentially take advantage of the unfolding opportunities.  A change in the portfolio constitution of 10-15% can be fine when it comes to tactical allocation. If it goes beyond that, it will change the strategic asset allocation that has been suggested, which is not desirable.

In summary :  Goal achievement is what is really important.  Hence, it is important to keep the focus on the life goals, more than what investment returns one gets at any point. One should invest in a disciplined manner following the strategic asset allocation suggestions, which is what ensures goal achievement. It is not necessary to get all excited about assets which are doing well at some intermediate point; it’s more important to stay focused on the goal and stick to a plan than running like a hare in all directions. Reviews (of both the plan & the portfolio ) are to be done regularly, to make any changes in the allocations.

High returns are wrongly seen as what helps one achieve goals. Also, it helps to understand that in a diversified portfolio, all components would not be doing well, always. But, a properly constructed portfolio would have various components and they need to be kept intact. Worrying about some component that is not performing is another common fallacy.  What should be seen is whether the portfolio as such is performing well. Disciplined investments & sticking to the suggested allocation / portfolio is what actually helps achieve one’s goals.  

We need to wean ourselves away from our near obsession with returns – in our best interests. Kitna deti hai fixation can be very costly indeed!
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