Asset allocation key to maximizing returns, say experts

Informed Investor, a special show on CNBC-TV18 organized in association with the National Stock Exchange brings together Nitin Raheja of AQF Advisors and Hemant Rustagi of WiseInvest Advisors to answer investor queries.

The difference between our parents' generation and ours has always been huge and on all parameters. This contrast has never been as stark as it is in today's corporate world, where the rules of the games have changed, the dynamics have entirely changed and so have the ways in which we deal with them. Today, we are to meet a bunch of young single, smart and successful career women from the social networking website Ditto and we are going to find out how they manage to juggle all of this and still manage their money. Raheja and Rustagi answers their questions regarding maximising and protecting wealth. Here is the edited transcript of the interview on CNBC-TV18. Q: When people start investing the first thing where they get confused is whether they should be doing it on a daily basis or whether they should do it, forget about it, review it on and off, what's the best advice for someone like these ladies? Raheja: My fervent belief is that any asset class typically requires a period of time for maturing, for it to deliver returns. Equities as a vehicle has shown that if you give it time, if you take 10 years or a longer period of 15 years, the average compounded return from equities has been around 14-15%. If you take any large corporate in India, from Reliance to any other corporate you would name, what was it 10 years ago and what is it today? We have typically seen in our research that whatever profits grow by market cap is a reflection of stock prices. It has grown by about 1.4-1.5 times the profits of the company. Clearly, if you are an investor and you are invested in a good company it will give you returns. However, that does not mean you do not sit and review your portfolio from time to time. Especially, if you are invested in a lot of mid and small caps which have many emerging companies and emerging managements which have not yet proven itself, you cannot stop reviewing your portfolio from time to time. Against that, if you have proven managements who have delivered numbers over extended period of time, there is no problem in sitting with them for a longer period. _PAGEBREAK_ Q: Now that we have established that being in the markets or being in a financial instrument for long term is one of the keys to investing. How can one go about it because compounding also plays a very big role in the long term? Rustagi: Whenever we talk about a process of investment, the general feeling is that it is a very complicated process. So either we don’t start the process at all or if we start, we make it very complicated because we don’t plan it. What is required is, before we begin our investments we need to plan it. It is very important that we establish our goals and decide what we want to do with this money. Each of these goals will have a time horizon. Time horizon is a period for which you keep your money invested. For example, if you need the money after a year or so, that is your time horizon. You might require some money after 5 or 6 years, some after 15 years. You need to establish your goals, your time horizon and what is the target that you need to achieve in each of these goals. What it does for you is, it allows you to decide your asset allocation. However, the mistake that we make is, we straightaway start buying some stock, some fund or put money here and there. That is not the right way. The right way is to decide on your asset allocation. Go for options which are diversified by nature. For example, when you look at equity, if you are comfortable with making selection yourself, of getting good advice, you can buy stocks. You can also invest in mutual funds or you can have a combination of these two. When you talk about debt side for example, the obvious choice is fixed deposits, bonds. That is where we feel more comfortable because we feel that the money is safe. Let’s not forget that these are not tax efficient investment options. We have to pay tax on every single penny that we earn as on that. If you happen to be in the highest income tax bracket, even if you make 10%, you are paying 3% as tax. You get the remaining 7% and it means that if inflation is more than that, your money is not growing at all in terms of value. There you need to look at tax efficient options like mutual funds. Mutual funds are much more tax efficient than fixed deposits. Gold for example, has a place in every portfolio, but have it in the right proportion. The key factor is to follow a process. Be very clear about what you want to do and then decide how much money has to go into each asset class and then start the process. Audience: I am a business woman. Do you say that this is the right time, when the share market is quite low to invest in the share market? What percentage in a portfolio would you invest in equities? Raheja: I think equity is one of the asset classes that you should look as part of a larger portfolio. You could have some amount in properties; you could have some amount in gold. You can also have some fixed income along with equities. You can broadly divide your portfolio accordingly. Today, if I were to allocate within a portfolio, given the circumstances, I would probably have 25-30% of my portfolio lying in equities. Is this a good time to invest? There is never a good or a bad time. Equities as a compounding vehicle has over an extended period of time delivered superior returns and it is an established fact, whether you look at over 10 years or you look at over 15 years. There is some internal work that we had worked on within our organisation and we looked at it. We believe that this is about time when you should start looking at equities and it should start delivering better returns compared to what it has done in the last three years time. Why are we saying that? It is because if you look at history, equity markets in India have followed eight year cycles. You had a 1992 peak cycle, then you had a 2000 peak cycle, then you had 2008 peak cycle. Intermittent to these peak cycles, the market always goes over and tests these peaks within a period of 2-3 years of these cycles. Then you have phases of consolidation and correction. These are four year cycles. Fifth, sixth year onwards the market starts building up a base for going into a new cycle. We are somewhere towards the end of the fourth year and the fifth year beginning. If you believe in history and you track history, there is repetition of this cycle which is possible. Hence, you are building into a new cycle in equities which will peak by 2016 if you go by history. Anybody who invests around these time periods, at the end of the fourth year or fifth year beginning has made anywhere between 100-200% kind of returns from equities. Yes I do believe that this is the time. How do you do it? That’s a different question altogether. _PAGEBREAK_ Audience: Which one would be a sensible investment, SIP or a fixed deposit? Rustagi: We are talking about two different things here. If your question is whether you should be investing through systematic investment plan in equity or whether you should be doing recurring deposit in fixed deposit, then it depends on what are you more comfortable with or what is your time horizon. For example, if you are investing for the next 10 years, you need to ensure that you are investing in asset class which can give you higher returns and at the same time help you beat inflation. That is what equity can give you. Equity also happens to be a more tax efficient investment option. Any capital gains that you make after one year is all tax free. On the other hand, when you talk about fixed deposits, even if you are getting interest of 10% and you are paying tax at the rate of 30%, your net return is only 7%. Which means you cannot beat inflation. SIP is only a manner in which you invest. Why it is beneficial for you is because equity as an asset class is also volatile. Volatility generally comes in short and medium term. Over the longer term, it's a proven fact that equities have given better returns than other asset classes. What SIP propagates is a disciplined approach of investing. You are not trying to time the market. You have decided that on this particular day I am going to invest so much money into a pre-decided fund. It helps you in terms of averaging. Over the longer term, I would say that volatility is not only taken care of but, it starts working in your favour because your average cost comes down and you make more money. Audience: I have invested in this company called Pharmax. I bought around 22,000 shares worth around Rs 12.5 lakh and the value has gone to Rs 25,000 now. So to average it I bought another 1 lakh shares last year thinking that I'll have little lesser value, but I don't see anything, it's going further down and I have to wait 5-10 years for it or just consider this as a loss? Raheja: Let me just take one step back. When you invested in the company what was it that drove you to invest in this company? Audience: To be very honest, I invested thinking that the value of the share is less and thought that I will have a number of shares and when it increases I will have good profit. Raheja: I will tell you, it's not the number of shares that you buy that is important or whether it’s a low value share or high value share that is important. What is really important is what amount of money, what kind of return you make on that money is more important than anything else. Second and most importantly, I think a lot of these midcap and small cap shares are products of bull markets. Typically, when there is a bull market and everything is going up, even dirt goes up at that point of time. At that point of time, there is not too much of research that is going on, everybody is following a momentum oriented trend. If you are doing that then you need to understand that if it is momentum and there is reverse momentum, I need to stop it also. I cannot allow momentum to carry on both ways. Then you make huge losses. So, first and foremost, I think it's very important for you to know whether the fundamentals of the company where you are investing is good or not. One of the ways of looking at is to look at the past five year track record of the company. Has it been delivering numbers consistently for you to get confidence, for you to put in money in that company? The second is, if you have invested for momentum, be very clear that if it has gone against you then you should clearly have some sort of a stop loss target going in it. Be absolutely ruthless and emotionless about it. Audience: I think there are certain puppet masters who sort of are sitting in banks, sitting at Wall Street and sitting in the government and the regulators and does anyone really know what they are doing? We are lay people, we invest money, we visit blogs and sites and listen to certain people but, you look at what happened in the US market two years ago and finally, what was really scary was 10 people sitting up and saying we don't know how this happened. They have their suits, they have their MBAs but they don't seem to know what's going wrong. At such times, who do we look at or look to with our hard earned money and is it just better to buy gold and store it under your bed? Raheja: The fact of the matter is that there are two elements to it. I believe a lot of the problems you are seeing in the world is because of a failure of politics. It is really being left to central bankers to hold the baby and manage the baby all by themselves. It is important for central bankers to keep people’s faith intact in markets. They had to do a lot of things and decisions which you might agree with or you might not agree with but, I as an investor what do I need to focus on and do? I need to focus on a couple of things. What is that I can track, what is it that I believe is within a limited sense under my control? Actually it comes down to a simple thing, let me focus on my circle of competence. When you are investing in equities, you need to focus to a certain extent on macro which determines long term bull or long term bear markets but, you cannot take away the micros. We as a country, if you ever looked at us except for a short period of time in mid-2000, when it was India shining or buy India whatever, in the last 20 years there was never a big compulsive case for you to invest in India at a macro level. Yet companies in India, entrepreneurs such as you have thrived in such markets based on entrepreneurism. So, it's very important for you to focus on the micros. The point that I am making is focus on the company that you are investing in, check how the management is running the business because even if the market is bad at that point of time and stock prices are depressed, you are getting a well managed business at a cheap price. I think you need to shut a lot of that noise and say where am I? Ultimately, you are not putting money where the central bankers are putting money, you are putting money in stocks so you need to focus there. _PAGEBREAK_ Q: I want Hemant to come in on the second part, if someone's mandate has been violated where can complaints be addressed and how should retail investor like our audience here go about it? Rustagi: I think there is a very well established mechanism to address all these issues. For example, if it is something related to market mutual funds, you have a regulator called Securities and Exchange Board of India (SEBI) you can write to them. In fact, the first thing would be that if there is something related to a mutual fund for example, you can write to that mutual fund. Every mutual fund is supposed to have a compliance officer who has to address that issue. If you don’t get a satisfactory answer then you can go and approach the regulator. I think the important thing is also that you must be aware of where you're putting your money and then keep a track of it. How do you keep yourself aware of what is happening? There are so much information available today, there are portals, there are channels, there is the press and you should spend some time. We work so hard to earn our money, why can't we spend even 5% of that time on our money? Invariably, we end up ignoring that part. If you keep yourself aware you will know exactly whether the portfolio is doing what it’s supposed to do, whether the fund where the money is invested or the broker who is advising you is doing his job or not. I think if you are a little alert, some of the problems that you have talked about can be addressed at that stage itself. Q: Hemant Rustagi has selected one portfolio from moneycontrol.com. He is going to take us through how that portfolio needs to be reworked? Rustagi: We are going to discuss about a portfolio of an investor who is 35 year old. He has a total investment of around Rs 8.5 lakh. In his portfolio, he has some stocks, some mutual funds, some equity funds and one gold fund. He has also invested in some insurance products and in commodities. So, in terms of asset allocation, he is into all the asset classes. He has established his goal of creating a corpus of Rs 60 lakh after seven years. So, he has established his goal and also his time horizon. On the face of it, it has all the ingredients that are required to become a successful investor. When we analyse that, we realise there are lot of gaps here. He said that he wants to create a corpus after seven years. He has defined himself as long term investor, but his time horizon is one-two years. So, there are different statements being made, there are gaps here. Secondly, the goals, even though he established a single goal of creating a corpus of Rs 60 lakh, the goals have to be realistic. If I take his portfolio into consideration of Rs 8.5 lakh, even if I assume annualised return of 12%, at best he can create a corpus of Rs 18.5-19 lakh. His target is Rs 60 lakh, so there is a huge gap. If he wants to achieve Rs 60 lakh target, he needs to invest Rs 32,000 per month in an option like equity fund, through systematic investment plan. Thirdly, he has not done enough in terms of risk management. We have talked about different goals, different dreams in life, we work hard to achieve them. But if something unexpected happens, what happens? Those dreams for us and for our family will remain unfulfilled. How are we going to fulfil them? It is very important that before anyone starts the investment process, he should be adequately insured in terms of life insurance as well as health insurance. In this case he should have opted for a term plan. Term plan because, it’s not only cheaper, but also gives much higher cover. He has opted for unit linked insurance plan, which is more of an investment cum insurance product. He has invested more than 55% of his money in insurance products, which if you look at asset allocation is not right for him. If I analyse his mutual fund portfolio, he has three funds. There again he has gone wrong in selection. One thing which I want to highlight here is - your commitment has to be on the asset class, not on the stock or the option. While we say that equity has to be for the long term, you need to keep monitoring your portfolio. Here, there are two funds which he should change. One is Reliance Growth Fund that he has. I believe that if he moves that money into Reliance Equity Opportunity Fund of the same mutual fund, he can get better returns. Second is SBI Magnum Multiplier Plus, as against that, I would recommend a fund like HDFC Equity where he can get better returns because this fund has been doing very well over the last 15 years. These are the changes that he needs to make. Important thing which I mentioned earlier in the show is that focus on having proper asset allocation, which is what he has not been doing. He needs to really rework a lot on his portfolio to become a successful investor.