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Beware of This Silent Killer in Your Portfolio

Nov 23, 2015

In this issue:
» Recovery remains a mirage for India Inc
» Are higher taxes around the corner?
» ...and more!
00:00
Rahul Shah, Co-Head of Research

'Yes, that's sad indeed,' I replied to my mom as we strolled around our society premises. For the second time in as many weeks, a friend of hers has suffered significant injuries following a fall.

Maybe it is just me, but falls seem to be a major risk to the elderly. I hear of too many instances for it to be a rare problem. Numbers in the US seem to support my hunch. As per the US Centers for Disease Control and Prevention, falls account for more deaths among the elderly than any other cause.

I doubt the numbers would be very different if such a study were done in India. Yet, there seems to be a lack of awareness of this issue. The number one killer of the elderly is right under our noses, but all we can focus on is terrorism, which isn't nearly as fatal.

Terrorism causes great anxiety, but one is more likely to die in a road accident than at the hands of a terrorist. Or in the case of the elderly, accidental falls are far more murderous than terrorists.

Three thousand people died on 9/11, but that number pales in comparison to the number of people who die in US road accidents. According to the most recent data, more than 30,000 people in the US die on the roads every year! But since the deaths are distributed over time and aren't given much importance in the media, the fear of an accident isn't comparable to the fear of terrorism.

Now, what has this got to do with investing?

Investment portfolios are also subject to silent killers, and while 'loud killers' such as crashes are certainly a threat, they get disproportionate media coverage.

Before we reveal the biggest silent killer of portfolios, a bit of math... The difference between two portfolios compounding at, say, 8% and 10% respectively may not sound like much. But it adds up over the long term. After 30 years, an investor who earned 10% would have accumulated 73% more wealth than an investor who earned 8%. Think of it as the difference between a corpus of Rs 10 crore and Rs 17 crore.

If you want to be the guy who earns 70% more, you have to watch out for the silent killers in your portfolio - namely, frictional costs like taxes, commissions, and management fees.

Compared to the value of the transactions, frictional costs may not seem to amount to much when you incur them. However, they can have a huge impact over the long term if you account for the power of compounding.

They may still not induce as much fear as the prospect of a stock crashing 50%, but frictional costs could be even more devastating to your long-term stock returns.

Do you think it makes sense to keep a close watch over silent killers such as friction costs? Let us know your comments or share your views in the Equitymaster Club.


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03:03 Chart of the day

Tax and inflation - these two have been a constant drag on common man's spending power. And while the inflation monster has remained subdued in recent times, the tax burden is likely to swell. The recommendation of Seventh Pay commission of a hike in the salaries of Central Government's employees is likely to cost Government an extra Rs 1 trillion in 2016-17.

As suggested in an article in Firstpost, the Government is likely to have a deficit of around Rs 5.6 trillion in 2015-16. Wage hike alone is likely to increase it by 18% in 2016-17. Not to mention that it will leave lesser funds for productive expenditures such as for capital formation.

And given our track record for fiscal deficits, the same as a percentage of GDP is likely to go up. The proposal to bring the corporate tax rate down is likely to further limit Government income if implemented. Oil price could also go up and play spoilsport. Hence, it is most likely to be the common taxpayer who will bear the ultimate burden. Not for productive expenses, but to contribute to salaries of government employees. The investment led growth may also suffer. What is more ironical is that all this does not even ensure better quality of service from the Government as there is no system to reward better performance.

Implication of Pay Commission's recommendations

*Based on derived data
Note: For 2016-17, tax collection numbers are assumed to grow at 16%, at around same rate as budget estimates for 2015-16

04:01

It is not just the common man disillusioned with 'acchhe din'. The corporate sector that cheered Modi Government's rise to power is also getting impatient. Forget the recovery; the corporate results suggest that performance is getting worse.

The sales have declined, suggesting weak demand. Any improvement in the operating profits is a function of low commodity prices for which Government does not deserve the credit. And this benefit can not be seen in the bottomline due to high corporate debt.

As suggested in an article in Livemint, the small and mid sized companies are bearing the double whammy of weak demand and delayed payments by corporate clients. The rot in balance sheets of big companies is spreading to small and mid sized companies. The receivables have gone up and interest coverage ratios look dismal. As far as Government's contribution is concerned, the situation has been made worse by delay in project approvals, which has an adverse impact at all levels of the value chain. In these uncertain times, one should be rational about recovery expectations. Therefore, expect more corrections in stocks where valuations have run way ahead of fundamentals.

4:45

The Indian stock markets after opening the day on a positive note, have lost steam and are now trading close to the dotted line. Sectoral indices are trading on a mixed note with stocks from the auto and realty sectors leading the gains. FMCG and metal stocks are trading in the red. At the time of writing, the BSE-Sensex was trading up by 25 points (up 0.1%) and the NSE-Nifty was trading up by 9 points (up 0.1%). The S&P BSE Midcap index and the S&P BSE Smallcap index were trading firm, up by 0.4% and 0.8% respectively.

04:55 Today's investment mantra

"Investors should remember that excitement and expenses are their enemies" - Warren Buffett

This edition of The 5 Minute WrapUp is authored by Rahul Shah (Research Analyst) and Richa Agarwal (Research Analyst).

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1 Responses to "Beware of This Silent Killer in Your Portfolio"

K.P.Janakiraman

Nov 23, 2015

For small investors like us.the returns are not high.The frictional cost(a new term?) like your charges are silent killers.

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Equitymaster requests your view! Post a comment on "Beware of This Silent Killer in Your Portfolio". Click here!
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