Saturday, 6 August, 2011

Long-term Investing - Reality & Myth

Long-term Investing - Problems with the advice given by Financial Advisors
An occasional post in what, hopefully, would be a multi-part series on this subject

As the adage goes, never ask a barber whether you need a haircut. You know what reply you'll get. Even if you're bald!

In a similar vein, many financial advisors ranging from Share Brokers, Insurance Agents selling ULIPs, Mutual Fund distributors, etc. keep eulogising the benefits of Long-term Investing.

Considering their skill levels (At selling, not in the world of Personal Finance), they are quite pursuasive.

And use half-truths extensively. Occasionally, non-truths as well.

Some examples:

  • "Timing the market does not make you money. Time IN the market makes you money." - This is at best partially true. When your financial advisors quote this, ask them about returns generated by investing in
    • Nikkei ETFs of Japan over the past couple of decades
    • DOW Jones index between 2001 and 2011 - A full decade, no less.
    • SENSEX from 1992 to 2002 - A full decade, no less.
  • "If you miss out on the 'Top 10 / 50 / 100 days of market return, your overall returns will plummet by xxx percentage points" - They never tell you about how your returns would have increased by missing out on the 'Bottom 10 / 50 / 100 days of market return!
  • Untold truths about Equity Mutual Funds - Returns of Mutual Fund Distributors (not Your returns) depend on how long you hold your investments - Ask them about trail commissions. And ask yourself about why they ought to be getting any trail commission in the first place??? Imagine your reaction if your real estate broker whom you used to buy your house expects you to receive a certain percentage of the ever-increasing value of the house by way of brokerage as long as you continue to own that house!!! (This ought to be the subject for a separate post altogether. Do remind me to come up with one!)
  • Untold truth about your share broker - When you buy, you have to sell. As long as he keeps pressurising you to buy, he knows that his brokerage income from the eventual sale of such shares is virtually assured. Can't think of too many occasions when I (or any of my friends, relatives, colleagues, classmates, their uncles or their neighbours) bought any shares from one broker, but used a different broker to sell the same shares.

When people talk about the impossibility of "Market timing", they are indeed stating an obvious fact. However, does it mean that one just buys a share or a mutual fund and forgets about it? While there's a lot of clarity about "Buying", the same degree of clarity is, unfortunately, missing when it comes to "Selling".

I'm not against long-term investing. Far from it. In fact, I'm a guy who firmly believes in long-term investing. After all, other than real estate (where the ticket size is so huge that it is not a meaningful investing option for a vast majority of ordinary retail investors), equities are the only option to generate returns that beat inflation. Hence, obviously, when one invests in equities directly or through mutual funds, it is indeed essential to have a long-term time horizon in mind.

However, it is equally important to remember the actual objective - "To make money", and not to  "Stay Invested"!

One needs to keep in mind the above while going through the process of investing.

How does it translate into actual action while investing?

Watch this space for more inputs on the same.



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