Mid cap buying through index tracking

I have been asked by many people whether there is any rule to decide the right time to buy. Well, unfortunately all the rules that many people tout about are largely intuitive and may or may not work in a given circumstance. However, it is possible to come to some logical conclusions if you track the indices closely over a period of time. Let me try and suggest an approach in this post that has worked well for me in the past.

We will continue with the Nifty Midcap 100 index today and use the following data to arrive at some possible conclusions as to whether it is a good buy at this stage. The data points are:-

  • Current level is 12302, 52 week low is 11857 and 52 week high is 14237.
  • YTD returns are -2.23%, 1 year is -6.3%, 6 months is -8.1%, 3 months is -7.9%.
  • 200 DMA is 13100, 150 DMA is 13176, 50 DMA is 13011 and 30 DMA is 12970.

What are the conclusions we can possibly draw from these? Here are some:-

  1. The trend of Nifty Midcap 100 has been fairly flat with the downward cuts have been fairly recent. The sharpness of the cuts have ensured that the current level is well below 30 DMA.
  2. Returns have been negative for all periods over one year, indicating that the stocks making up the Nifty Midcap 100 have, by and large, had a downward trend. Moreover 1 month return is about -7.7%, showing that the present cuts are the maximum.
  3. Till Nifty Midcap 100 crosses the 30 and 50 DMA we will not be able to say that it has really started consolidating on the way up. In fact there is more likely to be further pain out here.

What should be your actions for the mid cap equity buying whether in stocks or MF. Here are a few pointers that you may be able to use:-

  • While buying mid cap MF through SIP would not have been a bad idea in this market, you need to look beyond that and purchase at the right levels.
  • In the period we are talking about Nifty Midcap 100 came down to 12500 a couple of times and found support there. Finally it breached that level in the recent down move and went all the way down to 11857. As such you can look at buying Mid cap MF in between levels of 12000 and 12600 of Nifty Midcap 100. Do not go beyond it as there will be enough chances to buy as this level in 2016.
  • Similar approach should be adopted for mid cap stocks. However, there you can take Nifty Midcap 100 as a starting point, after that you will have to do a similar analysis of price movement through DMA for the particular stock in question.

Does this guarantee that your returns will be good? Unfortunately, no but what it does guarantee is this – because you are buying in a sensible way and not doing SIP mindlessly, your portfolio will be one of the quickest ones to recover when things start getting better. What is happening in the markets is not in your control but the price at which you want to buy equity is. Do not give it up and watch things in a helpless manner – that is simply not good enough strategy for your investments.

I will shortly do a similar post for small cap space.

Decide your large cap buying strategy through Nifty tracking

I have been asked by many people whether there is any rule to decide the right time to buy. Well, unfortunately all the rules that many people tout about are largely intuitive and may or may not work in a given circumstance. However, it is possible to come to some logical conclusions if you track the indices closely over a period of time. Let me try and suggest an approach in this post that has worked well for me in the past.

We will start with the Nifty today and use the following data to arrive at some possible conclusions as to whether it is a good buy at this stage. The data points are:-

  • Current level is 7441, 52 week low is 7241 and 52 week high is 9119.
  • YTD returns are -10%, 1 year is -16.5%, 6 months is -11%, 3 months is -9.7%.
  • 200 DMA is 8100, 150 DMA is 8034, 50 DMA is 7718 and 30 DMA is 7661.

What are the conclusions we can possibly draw from these? Here are some:-

  1. The trend of Nifty is downward for quite some time now and even today it is well below the 30 DMA.
  2. Returns have been negative for all periods over one year, indicating that the stocks making up the Nifty have, by and large, had a downward trend.
  3. Till Nifty crosses the 30 and 50 DMA we will not be able to say that it has really started consolidating on the way up.

What should be your actions for the large cap equity buying whether in stocks or MF. Here are a few pointers that you may be able to use:-

  • While buying large cap MF through SIP would not have been a bad idea in this market, you need to look beyond that and purchase at the right levels.
  • In the period we are talking about Nifty came down to 7500 a couple of times and found support there. Finally it breached that level in the recent down move and went all the way down to 7241. As such you can look at buying large cap MF in between levels of 7300 and 7600 of Nifty. Do not go beyond it as there will be enough chances to buy as this level in 2016.
  • Similar approach should be adopted for large cap stocks. However, there you can take Nifty as a starting point, after that you will have to do a similar analysis of price movement through DMA for the particular stock in question.

Does this guarantee that your returns will be good? Unfortunately, no but what it does guarantee is this – because you are buying in a sensible way and not doing SIP mindlessly, your portfolio will be one of the quickest ones to recover when things start getting better. What is happening in the markets is not in your control but the price at which you want to buy equity is. Do not give it up and watch things in a helpless manner – that is simply not good enough strategy for your investments.

I will shortly do a similar post for mid cap and small cap space.

Why are the markets falling?

The last one month has been a bad month for the global markets and we have also fallen by the wayside. You would have read a lot of theories in all kind of places as to why this is happening and what is to be expected going forward. I thought it will be a good idea to do a 2 part post explaining things in a layman like manner. In this first part, I will try to make some sense of why the markets have fallen so much and so fast.

The rise and fall of the market indices are really a collective impact of the rise and fall of the individual stocks that make them up. For example if ITC, Tata Motors and ICICI Bank are part of Sensex then a steep fall in them will almost guarantee that the Sensex falls too. Now, in some situations this can be balanced by other stocks rising in the same period but that is not the case right now. The individual rise or fall of a stock will depend on several factors, but the key determinant is always the demand and supply of that stock. So if there are many people wanting to buy ITC but few people willing to sell it then the price at which the stock is traded is bound to rise. If this keeps on for some time then the rise can be quite spectacular. In a similar manner if a lot of people are trying to sell a stock then the price at which the stock is traded can fall precipitously.

Now, obviously one time when people want to buy a stock is on some good news like great quarterly results, bonus shares in the offing etc. Similarly bad news will also result in people wanting to sell off the stock. This is easy to understand but will not explain the kind of fall that our markets have seen lately. In order to understand that we must figure out the stock holding pattern of most stocks which are part of our Indices. Foreign Institutional Investors are large holders and Domestic Institutional Investors which are linked to Government as well as Domestic Mutual Funds are the next in line. When these people anticipate a likely calamitous fall in the market then the sell off starts. Also, when some other markets are likely to do well in the near term, FII can pull money out of a relatively good market and put it in the more futuristic one. What you and I buy or sell really does not matter. Retail participation in direct equity is minuscule and though domestic MF have grown manifold they are not a match to the FII muscle.

Why are the FII selling off then? The following reasons are interesting:-

  • China growth story is seriously hindered. With their share of world trade the greatest at more than 5 %, this has impact over a lot of companies globally. As these companies are expected to do poorly, the equity markets they are part of will react negatively. China itself is the worst affected of course.
  • As the Chinese markets fall at some point they will become an attractive buy. FII money to be deployed here will have to come from other markets.
  • Europe growth has been largely stagnant and though USA and Japan are a little better off today, they cannot make up for the China meltdown.
  • The oil glut has meant that the prices of Crude oil have kept getting lower. This has an impact on the business and Economy of places such as the Middle East in a big manner. At some point reducing oil prices are injurious to other Economies too.
  • Since a lot of FII money comes from the US, the raising of rates by US Fed affected other markets badly, as US suddenly became a better place to put money.
  • Unfortunately for India the local situation is no better and this has compounded the speed at which markets fell. There is a serious policy logjam, quarterly earning growth is virtually absent, Rupee is declining to lowest value in years and consumer confidence is low. This hastened the sell off by FII.

Who is buying then? Well Domestic players would like to buy but they do not really have the capacity or the confidence to absorb what is being thrown at them. That being the case, markets are not finding any real support. In the last few months Nifty had come down to 7500 or so many times but it had got support there. Today it has been decidedly breached and no level seems sacrosanct.

What is likely to happen for our markets in 2016 then? Well, I am no expert and the crystal ball is decidedly hazy – but I will make an attempt to address this tomorrow.

A strategy for equity buying

Given the situation in the markets, several people are almost ready to give up on it. While a lot of what has happened in the last one month, is quite unexpected, I feel the problem has also been how people’s expectations have been tempered over equity.

Most planners and MF industry people have got majority of investors to understand that over the long run equity is the most likely asset to perform well. However, the corollary that they have implied of 12-15 % annualized return is where the problem starts. The data for our markets is only a few years old and it cannot be taken as representative enough to allow for meaningful projections into the future. If you just look into the composition of the Indices 10 years back and compare it to today, you will see how much has changed. The point is most investors have been led to believe that as long as they keep doing SIP in MF, over a long period of time this kind of return is in the bag.

The reason this has worked largely is that much of the current SIP portfolios ( including mine ) is post 2008. Since then the markets have not been great but they did not suffer any major downturn except for 2011. And then of course one had the spectacular returns of 2014 to seal the deal. The point is equity returns can be great but they will generally be quite unpredictable. Unless you understand this your strategies are likely to be flawed.

One reader of my blog asked whether we should forget equity then – of course not as that will be throwing away the baby with the bathwater. Equity is a great asset class that will deliver growth in the long term BUT you must stop looking at it like a FD with 12 to 15 % tax free interest. If that were the case then all people would put all their money in equity. The second issue is that we need to buy equity based on levels and not on some pre-determined time frequency. Obviously with an asset that can be volatile in pricing it makes a lot of sense to buy it when it is priced relatively low. Had you done so in 2015 then your SIP portfolio would probably be bleeding a little less now.

So what are the strategies in buying equity. I have explained it in several posts over the last 6 months but it will bear repetition:-

  • Buy equity regularly but always based on levels not time.
  • Do not have separate portfolios for separate goals.
  • Have a solid foundation of debt which can cater to your goals if needed.
  • Never do any distress selling in equities.
  • Make sure your market coverage is good, do not listen to people who say 1-2 MF is enough.
  • Do not mix equity and debt, makes no sense.
  • It is ok to not buy for some time, waiting can be good for your financial health.

Having said all that 2016 will probably be a great year for buying equity if you have the courage to do so and can settle down for the long haul.

Impact of markets on your portfolio

Yesterday the markets closed at the lowest levels in about 20 months or so. In fact, the levels of Nifty were similar to that of May 2014, just after the Modi government came into power. For a while everything had looked good and it was estimated that the markets would be at Nifty levels between 8500 and 9000 by 2015 end. My own expectations were along similar lines but, as it often happens in the market, things have gone fairly wrong.

If one looks at it from a fundamental angle, it is not really surprising that we are doing badly. There has been a lot of promise but not much actual delivery. Whether it is the issue of black money, GST, land acquisition or anything else it is the same story everywhere. For some time the markets were on steroids with hope but seeing the IIP numbers, exports decline and stagnant corporate earning quarter after quarter has clearly taken it’s toll. Add to it the fact that FII money has seen a strong outflow due to a variety of reasons, this now makes it easy to understand why the markets are doing so badly.

While ups and downs are always part of the equity markets and one will have to deal with them, I am a little worried about the casual approach that some people have taken to this.The general feeling propagated is that one is in equity for 10-15 years or even more, so how does it matter what is happening now. Again, when you deal in some of the forum in social media, you get to hear a lot of silly things but this one really takes the cake. Let me explain to you what is the real impact of current markets on a typical portfolio in detail.

Well, firstly there is no guarantee that every investor has 15 years or more with him and, even if he did, that the market will improve spectacularly in that period. Secondly, there are people who have their goals coming up soon and the current cuts definitely have a rather harmful effect on them. I have dealt with the strategies they should really follow in my last post. Thirdly many people who do not understand basics are thrilled that they are getting a bargain price on equities, without thinking what is the impact on the overall portfolio that they have.

Take an example of an investor who has been investing since 2003 and check how his portfolio would have got affected in this period. Yes, you can call this hindsight but this will show you what has happened in real life:-

  • 2003 to 2007 the markets were largely in a bull phase and his SIP investments would have done ok. Let us assume he built up a portfolio of 100 units by December 2007 and his investment each year was 10 units.
  • In 2008 the market crashed and even though it recovered quite well in 2009, the years 2008 through 2013 were largely not bullish, rather sideways. The investor’s original portfolio in 2008 Jan would have reduced to 60 units ( 40 % cut is ok, my own portfolio had more ).
  • By Jan 2014 his 60 units would probably have grown to 90 units assuming a CAGR of 7 %, which probably is overstating it.
  • Assuming he continued his SIP at 10 units per year, he put in 60 units and they would probably grow to 75 units by Jan 2014.
  • So in effect his portfolio in Jan 2014 was 165 units ( 90 + 75 ). In the run up of the market from 6000 to 9000 in Nifty let us assume his portfolio had gone up to 250 units. For simplicity I am not looking into SIP for 2014 and 2015, as those will in any case be at a loss now.
  • Assuming that he has not redeemed his portfolio, in the fall of Nifty from 9000 to 7400 the portfolio has probably got reduced to 200 units now.

So in effect between 2003 and 2015, he has invested a total of 120 units and is having a portfolio of 200 units. Not so hot and it will be worse if Nifty goes down to 7000 etc.

A brutal cut in the market is disastrous for your long term portfolio. Only new investors starting off stand to gain but long term investors are going to be hurt badly. Now think of someone who wanted to retire with 100 units in Jan 2008 or with 250 units in Jan 2016 and you will get the complete picture.

Only 2 ways to deal with it. First is to implement the 3 portfolio strategy with a strong foundation of debt and second is to forget SIP and keep buying equity at the low points of the market. Follow these two rules and you’ll be better off when the next brutal cut comes along.

Do you have a financial goal in next 3 years?

The current state of the markets will have all kinds of investors worried as the cuts to their portfolios have been rather brutal. It also does not look like abating soon as the conditions both global and local, do not present a pretty picture for the next 2-3 months. The investors who are the worst affected are, of course, people who were hoping to redeem from their equity portfolio in this year or the next 2 years.

OK so let us assume you are in a situation where you had pretty much achieved your target figure for a goal like your child’s college education by end 2015. Based on your financial planner’s recommendation you had thought of shifting some amount from equity to debt over the next 3 months or so. This would have ensured that the amount would be largely safe and available when the goal came around in 2017 or 2018. But as they say, “man proposes God disposes”, and in the case of investors the market certainly did not let your plan come to fruition. So what is to be done now?

Let us make the example a little more specific, so that all of us can understand it better. Assume that the money was planned for an Engineering college starting July 2017. You had planned for 20 lacs overall and your portfolio had reached close to that level by 2015 October. Thereafter things went really wrong and you are now having only 13 lacs in your portfolio with more downside quite a possibility. In order to tackle this situation, you will first need to understand the cash flows in question and then look at possible strategies.

The cash flows then – even though the course fees and associated expenses may cost 20 lacs over 4 years, you do not need to have this cash at one go. This is something very fundamental but most people do not understand it. Breaking down the cash flow by semester and assuming there is a 10 % cost escalation every year ( take 15 % if it is BITS ), the cash outflow plan that you need to manage will look like this:-

  • 2.5 lacs in July and December 2017.
  • 2.75 lacs in July and December 2018
  • 3 lacs in July and December 2019
  • 3.3 lacs in July and December 2020
  • Total expenditure for the course including inflation within it is 23.1 lacs

The deployment of cash from your resources seems much simpler now. You only need to arrange for 2.5 lacs in July 2017. If you are working in a job or business, it should be possible to save up this much money over the next 18 months. Even if you are not working, you will have the option of redeeming some of your debt instruments to get this done, under the assumption that equity markets have still not recovered by then.

What about December 2017 and thereafter? Well, you can continue in exactly the same manner. There is nothing like paying for the goals from your active income. Believe me, I have done it for my children so far and that is the best way. I am not saying that you should not invest for your children’s education or other goals, just that there are other ways of achieving that objective also.

What you must not do is panic and shift to debt by selling at a wrong time in the market. That will destroy your wealth like nothing else will. Your portfolio may be down 40 % today but the loss is really a notional one, it is only when you convert it into an actual loss by selling you have made sure that no recovery is any more possible.

I hope this has given some peace and succor to all of you who have been worrying about the imminent financial goals. At a broader level, forget this whole silly business of having different portfolios for different goals and shifting from debt to equity 3 years before the goal etc. These are completely senseless ideas which sensible people must avoid.

If you want to know more about it, just read through the posts in my blog on the 3 portfolio strategy.

Your choice of debt instruments

Now that we are clear about the parameters we need to consider for selection of a Debt instrument, let us look at the possible debt instruments you can probably choose for 2016 and beyond. It is important to remember that even for debt instruments, long term is key.

To begin with, let us start by the obvious instruments you must have in your portfolio namely PF and PPF. Use PF specifically for your retirement kitty. This means you must continue your PF across changing jobs and never think of withdrawing it. We all talk of the wonder that compounding is and there is no better instrument than PF to demonstrate this effectively. PPF is something you should have started really early in your career and it needs to be continued till you need the money. You must also contribute maximum to it. In case you do it properly, by the time your financial goals like children’s education comer up you will have a perfect backup for your equity portfolio. This will ensure, you do not need to redeem your equity investments in a down market.

The rates will of course reduce for both of these over 2016 and maybe beyond that. However, both of these are great instruments and the tax exemption offered to them, along with the discipline they bring into your savings, make them a must have in your debt portfolio.

So far so good but what next? Well, if you have enough surplus money I would recommend opening a PPF account for your spouse also. However, for those of you who have a girl child, younger than 10 years Sukanya Samriddhi Yojana is the way to go. SSY is a great product offering a higher interest than PPF, with all the other benefits. It is an ideal investment for your daughter’s college education. And, if you are funding her college education through equity, it can be used for a variety of other needs she will have later on.

What about Fixed Deposits? Well, with the rates plummeting and the returns being taxable, they just do not make sense to me. If you are looking at it for your retirement income then look at Senior Citizen’s Tax Saver scheme. Even the Post Office MIS is currently giving 8.4 % even though it will probably change any day now.

I have written some posts on Tax free bonds in the blog and believe that under current circumstances it will be a very pragmatic investment. The pre-tax returns of any other instrument will have to be is  double digits to match 7.6 % tax free returns of these bonds and I seriously doubt we will get back to those realms of debt return any time soon. Some of you wanted to know if you could buy the earlier 2013 editions in the secondary market. Those bonds are quoting at a significant premium now, so I really do not think it will be a good idea to do so.

What about other Debt mutual funds? Let us look at them one by one:-

  1. Monthly Income Schemes : I am a great believer of keeping Debt and Equity separate so I will avoid these.
  2. Liquid Funds : You may use it to park your money for the short term, with rates coming down, returns from these will not be great.
  3. FMP : The charm has reduced due to LTCG indexation after 3 years as well as lower potential returns. If you still want to invest do so only for 3 year FMP and in the next 2-3 months when rates are still reasonable.
  4. Short term funds : May benefit through further cuts in interest rate but my preference will be for more certain returns.
  5. Gilt funds etc : In one word, avoidable.

There are other options in the debt universe but I think you will find most of your money well invested if you try the above.