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Why Investment Portfolios Fail

Follow the Buddha’s ‘middle way’ when it comes to monitoring your investment portfolio

Photo Credit : Shutterstock


Over the years, I’ve seen best laid plans go awry many a time. Every so often; intelligent, well-meaning, and well-informed investors who have built out carefully planned portfolios of financial assets have failed (often miserably) in meeting their long term financial objectives. What’s more; it’s not uncommon for the behaviours that led to the first failure to have been repeated time and again, sometimes resulting in the complete capitulation of one’s risk tolerance or the proverbial ‘swearing off’ off financial assets.

Here are some of the chief factors which, in my opinion, contribute to one’s failure to achieve their investment objectives – sometimes, despite the selection of primarily high quality assets.

Poor expectation setting
Unfortunately, many portfolios have the seeds of failure sown within them right off the bat. This is typically an outcome of a poor expectation setting exercise. Any well-designed investment portfolio must necessarily involve an exhaustive process of setting expectations – in terms of expected returns, time horizon, interim volatility expected and key risks involved, at the very least. These points should ideally be documented and signed off by both the client and the advisor.

Realism, as opposed to both unbridled optimism or dire pessimism, will hold you in good stead during the expectation setting exercise. Return expectations must be in line with your asset allocation, long term past performance of the asset classes chosen (preferably over at least two complete business cycles) and future outlook for the asset classes in question. Anything over and above the projected returns need to be looked at as a bonus (at best) or a short-term aberration (most likely), and no unthinking reactions must be taken just because you’re +/- 5 per cent from your expected long term return in say, the first six months.

Speculative mindset

Oh, if only I had a rupee for every ‘long term investor’ who really turned out to be a speculator in disguise! When the going is good, and when asset prices have already risen, both confidence and optimism tend to spike; lending the courage to many to actually go ahead and invest after they’ve been sitting on the fences for extended periods of time. This is dangerous for two reasons: one, the time might actually be ripe to start going underweight in that particular asset class. Two, the investor’s mindset may be dangerously speculative, just waiting to leap off the train at the first sign of turbulence. Equities, real estate, gold, deposits – you name the asset class, and the behavioural patterns remain just the same.

When you’re building a portfolio, make sure you’re not actually going in to make a quick buck. Asset classes will go through cycles, and often not precisely as per plans. Be prepared to weather the storm and stay put, or you’ll end up catching the bull by its tail (or getting mauled by the bears) more times than you can count. Understand the investment horizon applicable for each asset class and be prepared to stick it out until and unless something changes dramatically at the structural level (for instance, if the country itself gets downgraded it might call for a complete shift in your asset allocation strategy).

Reacting to news
A close cousin of the speculative mindset is the ‘reacting to news’ habit. As many as nine out of 10 times, news flows warrant no action whatsoever. Somebody wisely suggested that in the short run, markets are a voting machine whereas in the long run, markets are a weighing machine. Trading the news is akin to bolting the door after the horse has fled; markets almost never react to news, but rather incorporate the most likely outcome of the news event in the run-up to the actual occurrence itself. Shocking and unanticipated news, on the other hand, might create entry points into otherwise fundamentally strong asset classes. The Greek Debt Crisis, Brexit, RRExit, the recent move to demonetize – all these news flows have surely created ripples in the markets, but prancing about after reading all these sensational headlines wouldn’t have done your portfolio any good. The NIFTY is still holding up above 8000, and in the long run, will be a slave to earnings growth and not much else.

Unwarranted faith in a ‘non-fiduciary’ advisor

The advisory profession in India is at a crossroads – and not for all the right reasons. Over the years, sharp sales tactics and a ‘product-led’ approach to financial advice has resulted in heartbreak for many an investor. SEBI has rightfully taken up this issue and is ambitiously targeting a migration to a ‘fiduciary’ future for the advisory profession in which Investment Advisers stop earning commissions from the “sales” of investment products, monetizing their relationship with their clients directly instead.

However well-informed, charming or well-dressed your Advisor might be, there’s a 50:50 chance that she’s operating with biases or conflicts of interest. Why? Because your Advisor could be part of an institution that’s encouraging the sales of high cost products that may not be in your interest. There’s not much that even a well-meaning Advisor can do in such a scenario: it’s more of a “you-say-jump-I-say-how-high” relationship between your Advisor and her employer.

Only advisors that earn zero commissions from products deserve your complete trust; after all, they’ve got nothing to gain from saddling you with a sub-standard product that creates a whole lot of revenue for intermediaries.

“Reverse Shift” in asset allocation

All right, so this is a dangerous one.

What’s the best time to buy more of something? When prices have fallen. Unfortunately, this is also the time that most investors wouldn’t consider touching it with a barge pole. As asset prices rise, so does optimism – and along with that, the propensity to invest. Thus, many investors fall prey to what I call the “Reverse Shift” in asset allocation. In other words; fuelled by greed and fear, their asset allocation moves in the exact opposite direction than it should.

For your portfolio to succeed, you’ll need to break out of this rut once and for all. Stick to your broad, strategic asset allocation plan (for example, a 50:50 split between equity and debt assets) regardless of what’s going on in the mad, mad world around you. This involves the periodic sale of an asset on the way up and the periodic purchase of an asset on the way down. You’ll be surprised at how this simple habit can influence your portfolio in the long run.

Excess churn or dispassion
Here’s a simple guideline: follow the Buddha’s ‘middle way’ when it comes to monitoring your investment portfolio. Churn in and out of asset classes too frequently, and you’ll likely lose money and wind up increasing your transaction costs. Adopt a completely passive strategy, and you’ll miss opportunities, plus your asset allocation will be thrown out of whack with every passing year. Set up a disciplined review process, even if the review outcome is ‘no action needed’. A quarterly review coupled with an annual rebalancing should work just fine.

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