Current market turmoil – how should you invest?

Long term investment is easy to preach and practice when the markets are going well. You can look at your previously invested amounts and see that they are having significant growth. Even the amounts that you have invested only in the last couple of months seem to be doing rather well. In other words, all is well with the world and you may even think that it will be a good idea to put all your investments into equity.

A couple of bad weeks like the current ones can bring about a complete change in the mindset of many investors. People are already thinking whether the markets are going to crash and if they should sell some of their investments to protect the gains made. How should you tackle this kind of situation?

In order to invest in equity for the long term understand these aspects well:-

  • Equity returns are non-linear and can be negative over a period of time. Do not get worried about short term losses.
  • The attraction of equity is that over a long time frame the growth has always been significant. If you have time on your side then there is no real need to get worked up about a 5-10 % market fall.
  • It is definitely gut wrenching to see your portfolio value get depleted rapidly every day. Tell yourself that unless you need the money, you are not selling off and therefore the losses are only notional.
  • When you panic and sell your portfolio, you convert the notional losses into real ones which is a bad idea.
  • Like we buy in discount sales, a sharp drop in the market is a potential opportunity to buy.
  • Make sure you buy over a period of time, in small amounts and with appropriate price triggers.
  • If any of your goals are near then look at the possibility of mobilizing money from your debt portfolio.
  • Continue your SIP, they actually are the most productive in a falling market. Add manually if you can.
  • Do not look at your portfolio every hour or every day when the markets are correcting sharply. This will only increase your misery and prompt you to act in an injudicious manner.

The very nature of equity investing means we will go through both good phases and bad phases in the markets. Normally we tend to invest more when markets go up and sell when markets are correcting. Both these actions are financially quite harmful to us. Sometimes doing nothing is the best course of action. Fundamentally, if you are a net buyer in the market over the next few years, you should be wanting to have the markets go down in most of these years. This is kind of obvious and yet very few people understand this.

What of the present situation? I think there will be serious correction to about 7700 or so on the Nifty in the next month or so but we will still end the year pretty much where we are today. Therefore, as far as your investments are concerned simply stay put and add more if you have availability of money.

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Building your own stock portfolio – Identify sectors after choosing businesses

In the last post we saw how you could identify businesses at a conceptual level for your future investments. Once you have done this, you can decide next on the sectors that you want to invest in. While at times there will be a one-to-one mapping between the business and the sector, in most cases the mapping is really one-to-many.

In practical terms, you could go to a website such as HDFC Securities to look up the different sectors and the companies in it. Let us assume that you have identified Aviation as a business and want to look at possible sectors in it. First go to the link here and look at the possible sectors linked to the business of Aviation. This may take a little time but it is fairly easy to do. In this case the obvious choice is the sector Air Transport Services.

In case you have chosen Real Estate as the business that you would ideally like to invest in, things get a little more complicated. There are several sectors that you can now choose from. Some of these are : Construction, which deals with companies actually into building houses etc; Cement and Cement Products, which will be required for building houses; Realty which deals with overall RE business; Ceramic products which will be required for building houses; Glass products which will be required for building houses and so on. You would have got the point by now.

Now, assuming you are building a portfolio for the first time, my recommendation will be that you stick with the more common sectors where there are well known companies doing business for a length of time. While, there are risks with all businesses and companies, the chances of any large scale downturn in these sectors and companies are limited to a degree. As we saw in the last post the consumption theme is likely to play out strongly in the Indian markets for the foreseeable future, You can choose sectors based on this to begin with. Use the list from HDFC Securities to identify your sectors.

Here are some of the sectors that will be my recommendation for starting off with a first time portfolio. Of course, people who have not been investing in an organized manner, can also realign their portfolios based on these.

  • Automobiles : The demand for more cars and newer types of cars are only going to grow.
  • Banks : The increasing population base will need increased scale and levels of banking services.
  • Capital Goods : Urbanization and increased rural demand will act as a catalyst to this sector.
  • Consumer Durable : Consumption here will be linked to better lifestyles as economy grows.
  • Electronics : A lot of future infrastructure and consumer products will depend on this sector.
  • FMCG : An evergreen sector that will continue to do well.
  • IT : Though there are challenges here, several Indian companies have shown leadership.
  • Logistics : With greater economic activities and E-commerce this sector is a sure bet.
  • Media : A relatively new sector, poised for significant growth in future.
  • Pharmaceuticals : Another evergreen sector with great Indian companies.
  • Construction / Realty : These will do well with enhanced infrastructure build-up.
  • Textiles : The consumption story will get reflected positively here.
  • Telecom : Already a high growth sector, future looks bright too.
  • Education : Serious growth potential in online and offline education.
  • Refineries : Profitable sector with captive demand, will only do better in future.

Of course, there are other associated sectors that can be chosen too. For example, Automobiles can be connected with Auto Ancillary sector and the Tyre sector etc. However, to begin with it will be a better idea to stick with the main sectors rather that go into secondary ones. As time goes by, you can definitely look at those too.

So which are the sectors that you will choose? I think to start with, 6-8 sectors are enough for a first time portfolio. You should be investing in these sectors over a period of 2 years or so to build up a basic portfolio. Once that is done, it is really a case of maintaining it and reviewing it annually. As time goes by you can add more sectors and companies but do remember that you will need to keep the ground rules discussed here.

Your task now is to read up more on these sectors and come to a conclusion on what your selection is. Remember, you will not reinvent the wheel and also that you are looking at a long term portfolio. A sector looking weak today but having great future potential may well be a best bet.

In the next post we will get down to selecting individual stocks in these sectors.

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Building your own stock portfolio – What businesses should you bet on?

Now that we have established the ground rules one needs to understand in order to build a successful stock portfolio for the long term, the next step will be to understand what businesses should you be investing in. An important factor to understand here is that when you buy shares of a company, you are really owning a part of it. In essence therefore, if the company performs well and increases in value, your investment in it will also grow.

Over a period of time, the most reliable indicator of a company’s worth it it’s market capitalization. You need to multiply the Number of shares currently in the company by the share price to arrive at this figure. If the company is doing well, logically it will have an increased worth and that will be reflected by a growth in market capitalization of the company. Obviously the share price movement is based on multiple factors and you may want to read my earlier posts on this to get a better idea.

However, let us first try and understand what are the businesses that one should consider when you are trying to build a long term portfolio. One way to look at this will be to understand the current state of the Economy and demographics to decide which types of businesses are likely to do well now and in the future. Note that this has got nothing to do with reading Balance sheets or other financial statements of a particular company, it is at a far more generic level. There is no guarantee that your thought process will be correct, but if you are aware of things happening around you, read good business newspapers regularly and apply your common sense in an intelligent manner, you can come to pretty useful conclusions.

If you look at the trends today, you will probably see some of these that are listed down below:-

  • We are having an ever increasing middle class that is becoming more oriented towards consumerism than before.
  • Any business that is providing goods and services to cater to these demands are likely to do well.
  • Societal norms towards dining out, travel abroad and owning assets such as cars have undergone a sea change, if you just compare them to what used to be there merely 20 years back.
  • Though opportunities are significantly more today, a lot of people are chasing these. Education, therefore becomes a very important differentiating factor.
  • As the general economy expands services such as financial and health services will need to scale up for catering to more people and therefore increased demand.
  • As convenience of access becomes an important factor, new types of businesses will get started to cater to the newer set of customers who do not want to buy things traditionally.
  • With rural India getting more prosperous there will be huge demand generation on certain goods and services.

Now, look at each one of these trends and think of the types of businesses that will benefit from these trends. For example, Banks and Healthcare will need to expand rapidly to take care of increasing demand. As people need more and better types of cars, Auto companies will increase their production and this will, in turn, cause the auto ancillary companies to grow rapidly too. More prosperity of rural Indian households will mean much greater consumption of FMCG company products as well as a higher demand for consumer durable such as TV, Fridge etc. I could go on but you need to complete this on your own. It is your portfolio so it is important that you have conviction in your own thought process.

Remember that we are talking of a long term portfolio, so do not get swayed by short term factors. For example, a poor monsoon this year may well depress rural demand for FMCG companies but over the longer term the demand is bound to grow well. Also, at this stage think of businesses and not individual companies. We will come to these later on.

The end result of this exercise will be for you to identify anything between 5-10 business types that you would like to invest into for the long term. There can be changes to it over a period of time but when you are starting off you must be absolutely clear as to why you are wanting to choose these businesses.

Once we are clear about the business types we can then get down to selecting the specific companies to invest into.

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Building your own stock portfolio – Know the ground rules first

So you have finally decided that you need to invest in stocks. You have defined an amount you can spend, have got a Demat and a Trading account in place and may even have signed up with a broker or some financial adviser to help you select stocks. However, before you take the plunge ans start investing, there are a few critical ground rules that you must keep in mind. This post ia about such rules to be remembered.

  • You will always look to build a portfolio pf stocks and be concerned about performance of portfolio. The portfolio approach is the most important aspect of equity investing. The basic idea is this – as you spread your investment over multiple stocks in multiple sectors, the scale of the risk in each of these is contained. So at an overall portfolio level you have a lower risk of losses. We will discuss on how to build a portfolio at a later date.
  • Ideally no stock should be more than 10 % or less than 2 % of your portfolio value in the long run. All of us will have our own favorite companies whose shares we want to buy. However, if we cap the investment at not more than 5 % of the portfolio value then we are once again containing the risk. Similarly, by investing at least 1 % of the portfolio value in a stock, you are ensuring that the investment is at a meaningful level.
  • You do not need to analyse companies yourself but must have access to the right information. Many people may have told you that you must read tons of financial information and understand every word of the Balance sheet before you can invest in a company. That is completely unnecessary and frankly it is an utter waste of time. Do not reinvent the wheel – there are far better qualified people than you who can do this well. All you need is to have access to such data and an ability to understand simple stuff well.
  • Always buy in small lots and with price triggers for both buying and selling. In stocks it is very important to understand that pricing is dynamic and is impossible to predict in the short run. It therefore does not make any sense to invest a large amount at one go. You can decide on what is a large amount based on the portfolio value that you want to create. We will be discussing this in much greater detail at a later point in time. Also, you must set price triggers for both buying and selling – this will take away the emotion from the decision and enable you to carry out trade calmly.
  • All profits and losses are notional till you make a sale. The value of your portfolio will be changing everyday and it can be like a roller coaster ride emotionally. While we will get elated when it rises by 3 % on a single day, it will be emotionally gut wrenching to see it nose dive by the same amount on other days. Remember that you do not make or lose money till you actually sell. On many days doing nothing can be the best solution.
  • Never bring yourself to a situation so that you have to sell stocks at the wrong time. The most serious risk in stock markets is that we may sometimes be forced to redeem part of our portfolio at the wrong time, as we need the money for some emergency. Your financial plan must address this issue squarely and make sure that you will have other sources of obtaining this money even if there is an emergency.
  • You will make both right and wrong calls on individual stocks do not worry about it. You must always evaluate your portfolio performance, it is impossible for most people to get even 70 % of their stock picks correct. Even if you get half of your stock picks correct for your portfolio, you will make a great deal of money from it.
  • Review your stocks in the portfolio every month / quarter but do not be obsessed with it.
  • You need to try and buy stocks at the right price and also hold these for as long as practical.
  • Do not be sentimental about any stock, if the review shows it has to be got rid of, do so immediately.

We will get into more specific aspects of building a high performing stock portfolio, the next post onward.

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Timing the market vs Time in the market

One oft repeated cliche that irritates me no end is this – do not try to time the market focus on time in the market instead. As I said in one of my posts before, it does not matter how many people say a wrong thing how many times, it will still remain wrong. Read on to find out why this is so.

To begin with what is timing the market? It is essentially trying to buy equity assets at a time when they are at a relatively less expensive state. If you understand this then you will see why people who are asking you not to time the market are so totally and completely wrong. Surely we are not saying that we should buy equity assets in a pre-determined manner irrespective of what their prices are? Heck, we do not even buy our groceries that way, why should we buy equity like that? Some will tell you that you cannot determine when the price will be the lowest so there is no point in trying to time things. The next famous cliche that follows such a discussion is, Do not try to catch a falling knife. I find that equally irritating.

The whole point of equity investing is the skill in understanding how to time the markets and more importantly, how to decide the purchase price of the stock that you want to have. If you do not have that skill and then complain that the markets are no better than a gambling Casino, then you really have only your own ineptitude and blind faith in some so called experts to blame for it. While there is no absolute right buying price or selling price for a particular stock, the critical decision is to have some triggers for both buying and selling. So yes, I will be timing the market and I better do it well. Buying at a low price and selling at a high price is the essence of equity investing. Do not confuse it with buying at the lowest price and selling at the highest price, that is an Utopian state you will never get into. Read this post to get a better idea.

So, now the question is how do you know the right time to buy a stock? The best way is to have knowledge about the economy, the sector in which the stock is and the specific company in question. Understand the basic logic of pricing by reading this post and also the next one. Finally if you want to read about how I buy stocks follow this post carefully.

Time in the market is of course a given. Long term holding of stocks can be enriching but it is important to buy them at the right price too. There is no real in-congruence between the two, you need to do both of these.

I will try and do a series of posts on how to build up your own equity portfolio soon.

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Guide for buying a first home

Over the last week, I have published a few posts on my blog dealing with issues of first time home purchase. I thought it would be a good idea to combine all these posts to make a guide for home buying. As before you can follow the hyperlinks to get to the individual posts. New readers should read all of these to get a complete understanding of all the relevant aspects.

Should you buy your first home now outlines all the important factors that need to be taken into consideration when you are planning to buy your first home. The first case study talks of a situation where a family can afford the home they are seeking to buy. The next case study is of a situation where buying the kind of home the family is looking at will not be financially prudent. 

There is an idea some people have that investing in equity now and buying a home later on will work out better. This post handles that aspect and discusses it thoroughly. This first time home buying checklist will help you to make a better decision on whether you are ready to buy the home or not.

Most of us will need home loans to buy a home, get a fuller knowledge of it here. The next post outlines why you must try to pay your home loan quickly. The final post of the series looks at my own experience of home buying and home loan.

I hope armed with this knowledge many first time home buyers will be able to buy their own homes in a financially productive manner.

Interested readers may pls follow my blog on email by clicking on the relevant button on the right hand panel. I will shortly be stopping the practice of posting the links in different Facebook groups. Following the blog will ensure you get intimated whenever there is a new post.

My experience with home buying & home loan

I had wanted to write this post as a follow up to the other home buying posts that I had written last week. However, i got distracted with the 100th post etc and was surprised to see that a few people asked me about it. So, here is the post I had promised about sharing my experiences of buying a home and managing a home loan.

When we came to Chennai in 1998 it was still possible to rent an apartment in a decent locality for not too much of a rent. We were able to get a good quality and new 2BHK apartment in Adyar for 6000 Rs and this went up to 8000 Rs when we left it after about 5 years. As Chennai was the first place we had lived in the south, we did not initially have any real plans of buying an apartment there. The trigger came in 2001 when I joined a new job where I wanted to be for some time, and we started looking in earnest when I became CEO of the company in January 2002. The children were in school by then and a long term stay in Chennai seemed like a real possibility.

There were several projects going on in those days and we liked one which was very close to where we lived in Adyar. It was a good locality and nowhere near as busy as it is today. The standalone building would have just 12 flats and was right on the MG Road, on the way to the beach.The builder was a reputed one and would arrange for the loan needed. At a price of 1925 per SFT and size of 1400 SFT for a 3 bedroom apartment it seemed the right deal for us. We ended up spending about 37 lacs finally with registration and interiors etc and were able to move in there by October 2003.

Funding the apartment required some careful thinking as I was not very keen on taking a big home loan if I could manage without it. The EMI was not the issue with my earning, but I have never fond of paying too much of interest if it could be helped. Fortunately, we got my wife’s PPF maturing around that time and could use it for the down payment of the house. As the payments were construction-linked we made a few of the initial payments on our own. The loan from SBI that we took was for 20 lacs at 11 % interest for 15 years. Till we took the entire loan amount we had to pay simple interest on the loan disbursed and EMI would start after that.

We shifted to our new home in October 2003 and started paying the EMI. With the tax break, it was a fairly decent deal – between rent for a similar accommodation and tax breaks we saved about 18000 Rs every month and our EMI was only a little more than that. Even then, I was interested in exploring paying off the loan quickly if possible as I was not fond of long term liability and realized that interest paid over the 15 year period would be substantial.

Though the rate was a floating one from SBI and the interest rates were coming down sharply, the bank wanted to charge us for shifting to the lower rates. We did that reluctantly as the rates had climbed down to 8 % within only 2 years of our taking the loans. However, I saw this practice as a discriminatory one to older customers and resolved to get out of the loan as soon as we could. To this end, we started making payments whenever we would save up 1 lac, typically every 2-3 months. My annual variable pay was also directed towards it. Some of our FD that matured in 2004 was also deployed towards these payments. Over the whole of 2004, we were aggressive in paying off the loan quickly and this meant that we had to jettison our other investment plans to some degree. However, that did not matter too much as I was clear we could get back on track with investments as soon as we were done with the home loan.

At the beginning of 2005 we took stock and saw that we had to pay another 5 lacs odd to square off the loan. This was also the time I was discussing a new job role which would require me to spend some time in Pondicherry and Delhi from March. Though it would stretch us financially quite a bit, both my wife and me thought it would be a good idea to get out of the loan before I took up the new job. We managed to pay off the loan completely by March 2005, much to the surprise of our Bank manager, who obviously wanted us to continue with the loan !! 

How did we manage to pay off the loan in the short time period? Some of the factors were as follows:-

  • The overall loan amount was a manageable one, as opposed to what one will require today.
  • We were lucky to be making a fairly large down payment so as to keep the loan amount under control. This was possible as my wife’s PPF maturity coincided with our decision to buy a home.
  • My salary was a relatively high one and it enabled me to pay off parts of the loan every alternate month.
  • We had some assets like FD etc which we used to pay off the loan in a faster manner.
  • For this period of 18 months, my entire focus was on paying off the loan. This was reflected in all the financial decisions I took in this period of time.
  • In the final stretch, we were able to get some lucky breaks such as settlement money from my last organization etc which enabled us to pay off the final 5 lacs in just 2 installments.

What do I feel should ideally be done today? Well, given the fact that loans will be more in the range of 60-70 lacs for a 3BHK house ( not in Adyar, Chennai there it will need to be much more ), it will be difficult to set up the kind of schedule I did in 2005. Even then, I feel most people should look to pay the loan off within 6-8 years if possible. There is no point in paying a lot of interest and keeping your money in FD and debt MF which do not give you any real incremental returns. I think if you are having a home loan then one of your important goals will be to pay it off as quickly as you can.

Getting back to my story – we were in Chennai till November 2007 and shifted to Hyderabad thereafter, when I took up a job there. We have not bought an apartment here and the rent from our Chennai house is used to pay for it. Meanwhile the apartment in Chennai has gone up a great deal in value, mainly due to the location. We may sell it sometime in the future when we want to settle in Kolkata etc. looking back it was a good decision to buy the home then and to pay off the loan.

Why have I not bought something in Hyderabad? That will be the topic for another post.

Interested readers may pls follow my blog on email by clicking on the relevant button on the right hand panel. I will shortly be stopping the practice of posting the links in different Facebook groups. Following the blog will ensure you get intimated whenever there is a new post.