Investing lessons for 2014 - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

Investing lessons for 2014 

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In this issue:
» What lies ahead for gold
» Corporate Government lessons for SEBI to learn
» The long term solution for Pharma companies' woes
» Moody's raises red flag for Government debt
» ...and more!

We are very enthused with level of participation of Aam investors in the newly launched 'Equitymaster Club'. And just in case you have not had a chance to visit it yet, allow us to introduce you to the hottest topic being discussed there - What was your biggest investment mistake in 2013. Without doubt the eagerness of readers and fellow investors to share and enlighten others about the investing mistakes committed by them in 2013 is itself a valuable read. But investors should also learn to put the mistakes in context.

Forget the impact of the economy and macro factors in 2013. As an investor if you assess yourself, some of the most common regrets are likely to revolve around putting more and more in loss making investments. Or being too greedy or too cautious with regards to investments. If you pay attention, all such mistakes have one thing in common - not following a disciplined investment approach, or improper asset allocation.

While most of the investors do begin with an asset allocation plan, they are not so active with reviewing the same. They tend to get influenced by mass mentality. And over a period of time, end up deviating from the original plan even when return requirements, risk profile and time horizon remain unchanged. For example, as an article in Economic Times highlights, in 2013 , many investors unwittingly ended up having their portfolio tilted towards debt instruments such as fixed maturity plans (FMPs).Disappointed by returns in equity investments and influenced by a higher interest rate environment , the investors went overboard . By the time the realization dawned, it was too late to get back to the original asset allocation plan. This is because such investors were unable to have an easy exit from FMPs prior to their maturity period unless they offered huge discounts on the same.

Often, a lack of proper financial planning can make one land in such state. Sticking to certain rules can help an investor avoid such situations. It begins with having an asset allocation plan based on individual's risk appetite and return requirements. And then comes the real task or test, i.e., to review the portfolio regularly for any deviation from the original plan and not get carried away by what one's friends or colleagues are doing.

As an old adage suggests, make sure you do not put all your assets in one basket. This means making investments across diverse asset classes such as stocks, debt instruments, gold, cash etc. Even within equities, one must ensure right degree of exposure across large caps, mid caps and small caps.

Some may find our advice stereotype and argue that risk is not a function of market cap but business, underlying fundamentals, management quality, track record and growth. This makes sense and should be the first and must filter for one's investments. However, investors who are confident about their stock selection skills often ignore the importance of diversification. Such investors end up with too many small and mid cap stocks as they consider large cap a barrier to growth.

While mid and small cap stocks can offer one prospects to make big money, one must not forget that over a long period of time, business models of large cap companies are more resilient to economic cycles. Hence, sticking with the right asset allocation matrix gives a balance between the risks and returns. In short, it ensures safety margin amid volatility which is a part and parcel of equity markets.

Do you think strategic asset allocation is must for success in the long term? Let us know your comments or share your views in the Equitymaster Club.

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01:20  Chart of the day
Gold proved to be a trade of the last decade. However, the end of 2013 marked an end of a wonderful bull run. Gold prices dropped by 28% in 2013. With commodity prices moving in cycles, many would believe that this may be a beginning of a bear run. Before we answer that let us first understand the reason behind a decade long gold rally. Global recession led to unprecedented money printing across the world. This increased liquidity in the system. At the same time, investors lost faith in equities and currencies. Risk aversion also increased. Basically, easy money created out of the liquidity injection exercise found its way into gold. Increased risk averseness further boosted the gold rally.

But once the US decided to taper its QE program, a sign that economic recovery is happening, gold prices crashed. And if the recovery gathers momentum there will be a further sell off in gold as investors will flock towards equities. However, while US may have decided to taper amidst signs of recovery, EU is not in a pink of health. This means central banks across Europe may continue with easy monetary policies. And this liquidity will find its way into a beaten down gold sooner or later. Thus, one may not see a free fall in gold prices.

Further, gold also acts a safe haven and is an insurance agent during uncertain times. Its ability to provide inflation adjusted returns further makes it a desirable investment avenue. Hence, we believe investors should have some exposure to this yellow metal in their portfolio.

Gold price : What lies ahead?

We believe whoever thought about the idea of having a Board of Directors for a company no doubt had good intentions. He would have hoped that these people, with all their business savvy and experience, would be able to steer a company in the right direction. However, it would be an understatement to say that the effort has been a failure. There are cases galore where companies hurtled towards trouble and the directors remained but mute spectators. Therefore having strong reforms in this sphere of corporate governance is of utmost importance we reckon. And there has been a flurry of activity by the regulator SEBI on this front. But alas, most of the steps are being taken in the wrong direction we reckon.

For example consider this proposal of allowing a person to be an independent director on the boards of no more than five companies at a time. SEBI is of the view that this rule would give independent directors more time to properly analyse the agenda of board and committee meetings. However, the point to be pondered over is whether restricting quantity is really going to lead to an improvement in quality. We don't think so. In fact, most measures at improving corporate governance are painted with too broad a brush we feel. It is time SEBI takes its lessons from some of the best boards in the country in terms of corporate governance. We are sure there will be enough lessons on offer that could really make a huge difference.

Indian Pharma companies have been making headlines in recent times. But all for the wrong reasons. Indeed, quite a few of these companies have not been adhering to the good manufacturing practices (GMP) norms in the US. No doubt revenues from this highly lucrative market have been impacted. But more importantly, these developments have tarnished the image of the companies. The US regulator has also become strict in this regard and has increased the number of surprise checks on plants. Thus, it goes without saying that Indian pharma players need to seriously ramp up the quality of their manufacturing plants. And being strict in this regard is something that the sector needs to ensure at all times rather than being driven by USFDA checks. Of course all of this will lead to rise in costs. One argument being bandied about is that the drug pricing policy restricts the profitability and thereby the means to spend on quality improvement. However, the sector will have to contend with the reality that drug prices being raised in India are remote. So the other solution, as proposed in an article in Business Standard, is that strict compliance will drive out smaller players from the market. These are the ones that typically sell sub-standard drugs. The other long term solution is for Indian Pharma to focus on R&D.

Fiscal gap, consumer inflation, policy paralysis, political instability, lack of corporate investments and poor infrastructure. Each of these risks is well highlighted by the media. But it seems that the most under rated problem for Indian economy is the burgeoning government debt. True the figure seems too benign when compared with the gargantuan numbers of economies in Eurozone, the US and Japan. Even China's shadow banking and debt bubble problems seem far more real. But whether and how long will India's own debt problem remain within control is anybody's guess.

The latest report by global rating agency Moody's has stressed on the Indian government's urgency to curtail debt. The rating agency may have so far blown hot air about how India's sovereign rating is due for a downgrade. Purely on the premise of lingering fiscal deficit problems. However, this time around the warnings seem far more logical. That a falling GDP growth and high inflation could balloon the government's debt obligations is no brainer. And having to pay higher interest costs on the debt could worsen the fiscal gap. Thus, India is set to enter into a vicious cycle of debt and fiscal imbalance. Hence instead of comparing India's debt numbers with the West, the government would do well to tone down its debt appetite.

The hotel industry in India has been dealing with an oversupply problem that began in 2008. Strong industry fundamentals and significant long-term economic potential led to strong growth in the pipeline. However post 2008; things took a turn for the worse for the hotel industry. The prolonged environment of economic uncertainty and lower economic growth rate has resulted in reduced travel spends across key business segments. Average occupancy rate in India dropped to a decade-low of 58% in 2012-13, while the average room rate fell to Rs 6,214, the lowest in six years. As a result hotels are struggling to be profitable with some having to restructure their debt to stay in business. Many owners have put their hotels up for sale. The number of hotels for sale greatly outweighs buyers, making sellers willing to sell at depressed prices. The prolonged oversupply issue, along with tighter financing conditions, has caused the new pipeline to shrink slightly. It is likely a recovery will begin at the end of 2014 as supply growth slows, demand starts to pick up and national elections are over.

After opening the day on a negative note, Indian share markets are trading above the dotted line. At the time of writing, the benchmark BSE-Sensex was up by 159 points (0.8%). Barring auto and metal, all other sectoral indices are trading in the green with information technology stocks being the biggest gainers. The Asian stock markets are trading mixed with China and South Korea leading the losses, while Indonesia and Japan are trading firm.

04:55  Today's investing mantra
"Everyone has the brainpower to follow the stock market. If you made it through fifth-grade math, you can do it." - Peter Lynch
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2 Responses to "Investing lessons for 2014"

Alphones Rayappan

Jan 11, 2014

Your advise is very good and is steady. At least one shall not loose money heavily in a volatile market. But, people are impatient and greedy.


Niranjan Thakur

Jan 11, 2014

In my personal view SEBI's contention on restricting Independent Directors to 5 companies,is very good step in the right direction.This way more candidates will be absorbed.Though I would partly agree with the author about concerns of quality rather than quantity, My own experience has taught me that while you would want to do justice to the Boards but due to lack of time and sometimes Promoters/Management's lack of will(intended or unintended) to have a strong opinionated Director is defeating the very purpose of INDEPENDENT DIRECTOR.

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