Monthly Archives: June, 2008

Inflation & Oil Crisis – few thoughts

It’s one of those times the investors as well as advisors dread.  Markets are choppy; analysts are sending out diametrically opposite views and investors are confused.  Being on the horns of dilemma, choices are not pleasant.  Runaway inflation makes return after taking in to account the effect inflation and taxation (real return) negative and investors dread the roller coaster ride of stock market.

First reaction would be to run for the cover.  Let us juxtapose the situation and imagine that investor holds real assets (property, gold etc.) as investments and prices of real assets tumble.  Would he sell them under loss?  Most unlikely! Because of illiquidity and loss of capital, he will still hold on to them for things to turn around.  Then why is that an investor in equity assets thinks differently than an investor in real assets or the same investor thinks differently between two asset classes?  Availability of liquidity (i.e., buyers at lower market levels) coupled with fear appears to be the main reason.  Fear arises due to lack of understanding of equity as an asset class.

There is no doubt that equity is the prime asset class that would provide an investor positive real return in the long run.  Here, the word “long run” is very important because in the chaotic world of equity investment, it takes some time for the market to move towards economic fundamentals.

We did a brief analysis how Indian stock market behaved in the past.  NSE’s Nifty is 50 stocks index representing fairly adequately performance of the Indian stock market.  The base period selected for Nifty index is the close of prices on November 3, 1995 and the base value of the index has been set at 1000.

Between 3-11-1995 (Nifty level 1000) and 06-06-2008 (when this analysis was done; nifty level 4627.8), there were 3152 trading sessions.  Out of them, 1686 sessions (53.5%) yielded positive returns.  Of them, 94 (3%) sessions yielded more than 3% return and only 21 (0.67%) sessions yielded more than 5% return.  Here the return is calculated as percentage change over the previous closing.

Those 21 sessions were spread across the years as under:

1996 – 3 sessions

1997 – 3 Sessions

1998 – 1 session

1999 – 2 sessions

2000 – 3 Sessions

2001 – 1 Session

2004 – 1 Session

2006 – 2 Sessions

2007 – 1 Session

2008 – 4 Sessions

 

Above data clearly shows that very few trading sessions result in high positive returns and the investor would have lost the market return if he had not stayed invested on those days.  Due to this, it would be futile to time the market; on the other hand investor should give time to the market to get the return.

If we cannot time the market, is then investment a passive process.  Definitely not!  Investment needs active management but active trading cannot be construed as investment.  This is where financial planning process helps the investor to choose the right asset allocation depending on his goals and time horizon.  In the past 13 years (almost), Nifty has given a return of 13%.  Many of the financial goals would have a longer investment horizon than this.  Wherever investor has the advantage of time, he can consider equity as a prime option to create wealth.  Choosing the right asset allocation and rebalancing them periodically is the key to create wealth in the long term through investments.

How then – not being an active investor and not happy with market return – to better the performance?  This is where mutual funds score over other financial instruments and investment avenues.  Options like systematic investment plan (SIP) and systematic transfer plan (STP) help the investor to control the cost of acquisition.  The skills of fund manager may help the investor to achieve a return which is better than average market return.  Today, mutual funds are available for many types of asset classes, real and financial, which otherwise retail investor cannot invest directly due to ticket size and/or lack of firsthand knowledge.

As far as the present investment scenario is concerned, valuations are bound to suffer due to uncontrollable inflation fuelled by rising energy cost and subsidies that governments provide.  Energy importing countries like India and China would suffer most.  Oil shock of seventies did not hurt India much because then India was an agrarian economy with agriculture contributing majorly towards GDP.  Services sector did not exist then.  Today, services sector is major contributor and agriculture has slipped to third position.  Changes in the technology and lifestyle have made all sectors energy dependent.  Detrimental effect of rising cost of energy would be felt in all sectors and more so in Industry sector. 

Should this make us think of getting out of equity as an asset class?  Answer would be an emphatic no.  Being realistic in our returns expectation would be a first step.  Being realistic about negative real returns of fixed income instruments would also help.  Many clients would ask us during the planning process why we considered a very conservative long term expected rate of return.  We think we were being realistic about the long term expected rate of return.

Seventies oil crisis resulted in more efficient Japanese car makers taking over western markets and Japan developing electronics industry as the economic force.  Who knows which innovation would help us to overcome the current crisis?

And if you thought oil crisis would blow over, think again!  Watch this video!

http://www.abc.net.au/science/broadband/catalyst/asx/oilcrisis_hi.asx

Regards,

Narendra

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Are you a green-investor?

Global warming is now and real.  Fuel / Energy prices are hardening.  There is no escape from the consequences unless we change and induce others to change the ways we use energy.  As an investor can you think ‘green’?  There are no carbon credits to a green investor as yet.  Still here are some points to ponder:

1.       Use plastic cards/e banking extensively.  This will reduce the use of paper and cost of travel to ATM/Bank

2.       Look at investing on line and reduce paper work

3.       Learn good practices to use plastic money and about on-line transactions. Have a good backup system for the data stored in your computer

4.       Do not insist on paper reports and receive e-reports instead.  Urge the board of directors in the companies you invest to send annual and other statutory reports in e-format

5.       If you are an investor in mutual funds, enroll to receive reports and other inputs in e-format

6.       As a share holder, write to the Board to adopt green & environmental friendly practices in their organisations

There are not many green funds in India as yet.  ABN Amro has a fund named ABN Amro Sustainable Development Fund which has as an investment objective investing in companies defined as “Socially Responsible Companies”.  It’s a close-ended fund. More such funds would be available in future as the trends catches with the investors.

The process of indentifying green companies is complex and none of the stock exchanges in India have green Index as yet.  AB Amro Fund is based on Crisil’s list of SRCs. 

There are some greener-of-green companies espcially in the areas of renewable energy sources.  They are bound have a good valuation with soaring costs of non renewable / conventional sources energy.  You may make such funds part of your portfolio.  Conversely, you may shed those companies who are polluters and inefficient in their energy use.  They are bound to suffer in the long run.

Listed below are links to some of the articles on green investing:

http://www.fool.com/investing/general/2007/04/18/the-motley-fool-goes-green.aspx

http://www.greenmoneyjournal.com/

http://www.forbes.com/2004/02/24/cz_jr_0224soapbox.html

http://www.greencentury.com/greeninvesting/

http://www.msnbc.msn.com/id/19225855/ & http://www.msnbc.msn.com/id/17950339/

Good luck for a green future.

Regards,

Narendra