Quick: what's better for you as an investor?
Fund One that gives you a +90% return in one year, then loses -75% of your money in the next year
Fund Two that gives you a boring +60% return in one year, then loses -50% of your money in the next year?
What's better for you as an investor?
Click here, to let us know.
If you answered, Fund Two - you are a budding genius.
If you answered Fund One - you are the kind of person that many in the mutual fund industry love to have as an investor.
You are either typical of the greedy, impulsive investor who likes to see the "headline" number - without spending any time on understanding the underlying issues.
Or, because you are new to the investment world, your ignorance is being used against you. Being ignorant is not to be equated with your stupidity. One can be an expert in medicine, but totally ignorant of geography - or investments.
The financial world wants you to stay "ignorant"
Imagine if everyone in India was made aware - not only educated with a college degree but also made aware of "social" values like respect and tolerance for other cultures.
How do you think we, as people who are no longer ignorant, would vote?
Table 1: Another election of the ignorant, by the ignorant, for the ignorant.
Source: NDTV.com; Wikipedia, our estimates
|Congress Party won
||120 - 180
||120 - 180
|Coalition govt led by
||BJP or Cong
How many of the 6,735 candidates standing for the 543 seats in the Lok Sabha would even have a chance to get their election deposit back?
An educated voter base - which was no longer ignorant - would see a whole new set of politicians competing to represent the informed electorate.
The selection of the candidates would be based on debates that would go beyond the issues of religion and caste that dominate much of Indian politics today.
What is true for the world of Indian politics is true for the world of investing.
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For decades, the financial world has claimed that investments are such a complicated business that the financial geniuses know a lot more than the "normal" person.
This is true.
Not because finance is a complicated business.
It is an easy discipline to learn.
But the high priests of finance have created this myth to mask the reality.
They, like the politicians, want the investors to stay "dumb" - it is to the advantage of the industry to keep you "ignorant".
This has allowed the manufacturers of financial products (like mutual funds) and the distributors and advisors who peddle these financial products (uh, check who sold you your last mutual funds) to ride on a gravy train - at your cost.
Check the facts, not the headlines
Going back to our example, an investor who invested Rs. 10,000 in Fund One (a gain of +90% in Year 1, followed by -75% loss in the next year) would have ended up with Rs. 4,750 by the end of Year 2.
An investor who invested Rs. 10,000 in Fund Two (a gain of +60% in Year 1, followed by a loss of -50%) would have ended up with Rs. 8,000 by the end of Year 2.
Table 2: Scratching the surface to get the facts.
|Gain in Year 1
|Loss in Year 2
|An initial investment of Rs 10,000 would be worth
|How much would Fund One have to increase to catch up with Fund Two?
In fact, an investor in Fund One will have to see the residual value of his investment in Fund One (Rs. 4,750) increase by another 68.4% to catch up and equal an investment in Fund Two (Rs 8,000)!
Now, if you knew this - where would you rather invest: in Fund One or Fund Two?
Generating returns, Preserving Capital
Most investment advisors and investment managers, focus on "how much money can be made".
They will never tell you how much money can be lost.
But, as can be seen in the example above, to make an informed decision investors need to know both sides of the equation: the amount of money that can be made, and the amount that can be lost.
The mutual funds and most distributors are always busy telling you how much money you can make.
They tend to be silent on how much money you can lose.
But they know the answer.
Just as every teacher will know how a student or a group of students in her class will behave in a particular environment.
The teacher will know which student is likely to come late to class when the roads are flooded; or which student is likely to be late to class when the trains are running late.
Or a doctor will know which patient is likely to come to him first when there is news of, say, swine flu hitting India.
Or which patient is likely to be least bothered about such an event.
Every stock has a certain character; a behavioural pattern that can give you an idea of how stocks are likely to move in any given environment.
Every mutual fund consists of a basket of individual stocks.
Collectively, this basket of stocks is referred to as the portfolio.
And this portfolio has a track record of how it has behaved in the past.
In booming markets.
And in terrible markets.
Don't get fooled again!
So, now that the stock markets are recovering, many mutual fund houses and their distributors will be busy selling you the "top performing funds" of the past one month that did better than their peer group.
To stun them into silence ask them the following questions:
- What was the percentage loss of the NAV of the Fund when the markets declined?
- What is the likely percentage loss to the NAV if the market was to decline -20% from here?
- What is the likely percentage gain to the NAV if the market was to gain +20% from here?
These questions will take the decision-making of which fund to invest in to a more relevant level of discussion.
Just like an educated voter would take the decision of which candidate to vote for to a whole new level.
Decisions and choices will then be made on issues that matter.
Not on headlines.
You will be investing in a mutual fund based on how it invests; what kind of stocks it buys; what kind of stocks it avoids.
And why it chooses a particular investment approach.
You will no longer be faced with the idiotic proposition to give your money to a mutual fund house because it is large: a totally irrelevant piece of information.
Just as you would no longer have to vote for someone because they were Hindu or Muslim. Or Brahmin or Dalit.
You would vote for a candidate because their vision of where they wish to take India matched your desire of where you want India to go.
Oh, oh: did your money make it to the market?
And, while you are selecting a mutual fund that has the same investment and risk philosophy as you do, don't forget to ask the other important question: for every Rs 100 that I give you to make an investment in a mutual fund, how much is leaked along the way to the distribution channel?
Just as you would want a politician to disclose how much of your (tax payer) money supposedly being spent on building better roads and giving you 24-hours of water supply actually finds its way into the project - and how much is leaked out to his friends and family along the way.
At Quantum Mutual Fund, none of the money you give us finds its way to the distributors.
No other fund house can say that.
Not even the large ones - sorry, especially not the large mutual fund houses!
And, yes, we do have the answers to the 3 questions. Click here to find out.
We are not sure how many fund houses have the answers to those 3 questions.
Ask around - and please let me know.
Meanwhile, cast your investment rupee the same way you cast your vote: after being made aware of where the candidates stand on real issues.
Cast away the spell of "ignorance".
Suggested allocation in Quantum Mutual Funds (after keeping safe money aside)
||Quantum Long Term Equity Fund
||Quantum Gold Fund
(NSE symbol: QGOLDHALF)
|Quantum Liquid Fund
|An investment for the future and an opportunity to profit from the long term economic growth in India
||A hedge against a global financial crisis and an "insurance" for your portfolio
||Cash in hand for any emergency uses but should get better returns than a savings account in a bank
||Keep aside money to meet your expenses for 6 months to 2 years |
Disclaimer: Past performance may or may not be sustained in the future. Mutual Fund investments are subject to market risks, fluctuation in NAV's and uncertainty of dividend distributions. Please read offer documents of the relevant schemes carefully before making any investments. Click here for the detailed risk factors and statutory information"
Note: The Honest Truth is authored by Ajit Dayal. Ajit is a Director at Quantum Advisors Pvt Ltd and Quantum Asset Management Company Pvt Ltd.. Views expressed in this article are entirely those of the author and may not be regarded as views of the Quantum Mutual Fund or Quantum Asset Management Company Private Limited.