Investment Myths

 One needs to be stock picker

One needs to be a stock picker

Often we hear of investors who are constantly beating the crowds. A cut above the others. The investors who beat the index by far.  The super investors. This constant barrage of information of other investors beating the market by cleverly selecting the winners leads us to believe that we all need to be super investors too.

And here in lies the biggest risk that most investors expose themselves to. The feeling that the only way to win in the investment process is by picking the winning stocks. And very often these winning stocks happen to be recommendations from random acquaintances. Can everyone really pick the winning stocks? The process of selecting multibaggers can be daunting.  The path can be full of landmines. Not everyone can be a Warren Buffet. And yet almost everyone wants to be one and many even believe that they need to be one.

A safer path for most investors is to diversify the risk by buying the entire market or a broad index. In the words of the legendary Jack Bogle, buy the haystack. In other words, don't try to pick stocks. Instead buy the index or the broad market. A safer and yet a rewarding approach is to buy the entire market. Ride the wave of the entire market. Often referred to as Index investing, the key principle is that instead of taking on the risk of choosing the winning stocks, it is better to buy the entire index. 

The concept of index funds was made famous by Jack C Bogle, an american legend. He argued that a safer for the retail investors was to buy an index fund which represents a group of stocks that represent a broad set of industries and sectors. By investing in index funds, one takes away the risk associated with specific stocks and only aims to replicate the returns of the market.

Watch my video about The Principles of Investing by Jack Bogle

In summary, successful investing does not require you to be stock picker. Not everyone needs to be a Warren Buffet or Vijai Khedia. You can achieve tremendous success in investing by not being a stock picker and exposing yourself to a huge risk. Take the less risky path. Buy the index and sit back and relax

Read this other very interesting blog post, Buy The Hay Stack

Saving is key

 Success is not about taking that bold step in the future, it is about taking the small steps now.

Saving is probably one of the most important habits in life. This is the first step towards your long term financial security and ultimately your financial independence. There is no substitute for saving. And hence the moot question. How much of what you earn gets saved?

I often hear people say that they cannot manage to save by the time the month ends. And this may be true in some cases. But in my experience, most of us can save a part of our earnings. While the size of our savings has a huge impact in the long term, the first step is to be aware of and having that intent to save.  Getting into the habit of saving and a mindset of saving is a very important first step. 

The early years need to be focused on building an initial corpus. One needs to build a sizable base as quickly as possible as this is important for the magic of compounding to kick in. Read about the importance of size in my previous post Size Matters. Hence developing a saving habit is very important. Just like your health, your financial health is dependent on the daily decisions that you make everyday. 

Here are a few ideas that will get you started on your journey towards financial security.

1. Set a budget: Setting up a budget is the most important start. Setting up a budget does not necessarily mean being stingy or depriving yourself. The process of budgeting makes you aware of the various things you spend your money on. It allows you to prioritize the important stuff and may be leave out the not so important stuff. How much do you plan to spend on rent? How much of your earning is allocated to groceries? And that most important question. How much of your earning do you intend to save at the end of the month?  Set up your goal for saving. Don't stretch yourself too much as setting unrealistic objectives will get you off the rails before you have even started. Setting up a fair and realistic goal is extremely important for a sustainable budget. Getting into a saving habit is much easier than you think and setting up a budget is a great way to get started.

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2. Spend less : Spending less does not need to be a negative thing. You need to decide which expenses are important and which are not. You can still go ahead and buy something that makes you feel good. But among the many things that you buy everyday, you will find opportunities to eliminate many items from your shopping list. You will be surprised about how many items you will be able to eliminate from your monthly list once you get into the mindset of saving. Shopping around is also a great way to cut down on your spending. While you may have set a reasonable budget for your groceries, check for prices and value across the supermarkets and brands. You will discover new stores and brands that provide a better value and cost significantly less. 

3. Separate your savings: Often we find that moving the targeted savings amount out of the current account is a great way to build the discipline. Right upfront, move your targeted savings amount to a new bank account. As soon as the salary gets credited to your account, transfer your planned savings to a separate account. Once it moves out of your salary account it is likely to remain safe and out of reach.

4. Avoid debt: We all fancy the luxuries of life. If you can't afford to buy them with cash, you can't afford them. Never ever take a loan for depreciating assets. Like a car or the new TV. A loan is a sure way to disrupt your savings process. Aside from this, debt have several others risks associated with it. It is prudent to avoid all debt in the early years.

5. Set up an SIP: An SIP ( systematic investment plan) is an automated process of investing your savings on a periodic basis. I personally love the concept of an SIP and have used it extensively. you can set up a process of automatically investing a fixed amount into any mutual fund of your choice.  Watch my video about the process of SIP here

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The risk of over ambition

 " A genius is the man who can do the average thing when everyone else around him is losing his mind"

                                                                                    - Napoleon

How often have you experienced anxiety which stems from an exaggerated target return? For most people, the slow and steady approach to investing is a much safer bet versus the over ambitious route. Many times we get influenced by exaggerated claims of success that we see on social media or even within our friends circle. 

I guess this issue has become even bigger in this social media driven world as we get bombarded with all sorts of news and information. Even more dangerous are the so called social media influencers supposedly living fancy lives after huge investing success (are they?)

Having fair and reasonable expectations from your investments is a key factor that can make or break your long term success. How we behave and react to the constants noise is a very critical factor. In the investment process, a high IQ is not very important but a strong EQ is. Doing well with money doesn't require a lot of intelligence but it definitely requires a calm and composed mind. 

It is a vicious circle. The more you get stimulated by outside noise, the more you tend to up your own ambition. And more you keep pushing yourself harder, the more likely you are to make stupid investment decisions. 

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Focusing on average returns can be very rewarding. It eliminates the risk of anxiety and stress of overachieving. It eliminates the poor decisions usually associated with over activity. Very few among us will be as successful as Warren Buffet. Staying focused on average returns is far more important in the long run.

"The line between 'inspiringly bold' and 'foolishly reckless' can be a millimeter thick and only visible in hindsight" 

- The Psychology of Money

Index Funds

 Investing in index funds has long been considered one of the smartest investment moves you can make. Index funds are affordable, enable diversification, and tend to generate attractive returns over a longer period of time. 

The biggest benefit of an index fund is the elimination of personal bias. It takes away the complexity of selecting specific companies to invest in and rides the general growth of all business within the index. In other words, the fund invests your money into all the companies in that index based on the weightage that each company holds in the index. It is assumed that fund managers who manage active mutual funds are smart enough to know which companies to invest in and which ones to avoid. However historical data suggests that over a long period of 10 years or more, there is little to choose. Very few active funds will have beaten the index. While some active funds will beat the index, the question is which ones? 

Time is your friend Click here

Another important reason to invest in an Index fund is the diversification it provides across various industries, companies and business cycles. Remember that an index itself is a self-correcting one. Over the period, poorly performing companies will be eliminated from the index while well performing companies get added. This provides a vast diversification of the fund. 

The most important advantage of an index fund is the low cost. Investing in an actively managed mutual may entail an annual cost of 1% to 2% which is taken from your investment fund. In other words, the fund house will deduct that amount each year from your fund. This is referred to as the Total Expense Ratio (TER). Now imagine the impact of this on your investment compared to the TER of an index fund which may vary from 0.15% to 0.3%. This has a huge impact on the total outcome say at the end of 15 or 20 years. Read about the value of 1% here.

In summary, index funds are an excellent route to building wealth over the long term. Could other active funds beat the index funds? Sure. A few will. Alas if only we have that crystal ball to know which ones! 

Need to talk about Index Funds? Leave a comment below.

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How not to invest

 A lot is said about how to invest. We spend a lot of time trying to become the next Warren Buffett, trying to identify the next multi bagger. I know of a lot of folks who brag about their investment ideas. But to become a good investor, the first gate one needs to cross to know how not to invest. 

In a game of cricket, the real stuff happens on the pitch. And in the dressing rooms. What really matters is the strategy the team has in mind, the batting line up, the bowling statistics etc. And yet the focus often remains on the cheerleaders. They are nice to look at. The draw a lot of attention. At the end of each over, they dominate the screens. And yet they have no impact on the final outcome. Investing is a lot like that. 

Imagine there is a hardware shop in the village that has been operating for a few years and is now on sale. Would you buy the shop only based on the village gossip? And if you did decide to go ahead with the purchase, how much would you pay? Would you want to know how many customers it serves? Would you not want to know how much profit it makes? Or may be it is running losses? 

Would you go ahead merely based on the fact that he has a good looking daughter?  That is what is referred to as hype. Often people depend on the hype while taking investment decisions. With little reference to business fundamentals. Just like a game of cricket, the cheerleaders don't matter. They have no impact on the final result of the match. Remain focused on the game.

Before you invest ask questions about the business. In a sense buying a share of a company is like buying a small part of the hardware shop. Find out if the company is making profits. How consistently has it made profits over the last few years. What does the future hold? Is the company's future protected? How efficiently is it run? How good are the returns on the capital it has deployed? What is the company's position in the industry it operates in? Is there any risk to the company's business in the future?

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This post is not about what to do. It is about what not to do. Don't make decisions based on a random comment or hype. Do research. Understand the company, Understand the industry. Look for signals about the company's future profits.

In the end the cheerleaders don't have any impact on the final outcome of the match