Prashanth Krish | Portfolio Yoga

This time its no different

So, we have had one more day of Blood letting with markets showing no signs of bottoming out even though domestic institutional investors continue to Buy into the weakness, a weakness that has been caused majorly by global factors accompanied by ceaseless selling by foreign institutional investors.

Blood letting was a medical practise carried out as late as end of the 18th Century due to the belief that only by removing all blood could some of the ailments be resolved. The reason is survived so long was due to the faulty way its success and failure was calculated. If the patient survived, the blood letting worked whereas if the patient died, the catch was that the patient could not be saved even though blood was let. A kind of Heads I win, Tails you lose.

In the markets, blood letting is a ritual that is practiced every year. Investors who are strong survive to see another year while weak Investors just die never to come back again and will be replaced by a new breed of investors hoping to make a mark.

Markets are now down 18.43% from its peak but for many a investor, it seems as if the floor has given way. This could be due to the fact that the markets which topped out in early 2015 has been on a consistent decline ever since. Of course, this was not visible in the Mid and Small cap segments which till a few days ago were in a world of their own, but the flight of capital from Small Caps where the exit door is very small has made it similar to people trying to rush out of a single door when a room full of partying people suddenly realized there was a raging fire outside.

But the draw-down in itself has not been abnormal. Nifty has seen a average decline of 21.87% (even if you remove 2008 from the calculation) from the year high and in that aspect, the current draw down for 2016 is just 6.60%.

Every fall is a opportunity provided one is ready to catch the same when its available. In panics, investors (both retail and institutional) are so immersed in trying to get out that they are willing to sell Gold for a few trinkets of Copper only if they can get ready access to cash. We are no way closer to that though a final long term bottom would see something similar. Hope you are ready when that happens.

The Ghost of the 2008 Past

I have literally lost count of the number of analysts / articles who compare every fall to 2008. Its as if everyone attempts to be the one who called the top and more the attempts, better the chances. At some point of time, we will have a significant fall and for those who were lucky to have called it just before the final blow came, book deals and even movies could / would be on offer.

Raghuram Rajan has been credited with calling the housing bubble. While he did get the bubble and how damaging it could be, anyone trying to follow his advise by shorting the markets would have been burnt and buried years before the 2008 blow came.

The recently released movie “The Big Short” based on the wonderful book with the same name by Michael Lewis showcases one such fund manager who understood the big reward that could be got by shorting and yet, due to the fact that he was early, had to go through suffering of the kind that very few fund managers can withstand.

Its one thing to call is right and quite another to actually be able to take advantage of the frenzy since not just is it tougher to initiate short positions in stocks / markets that are in bubble territory, its tougher to hold on to positions even as markets continue to move against you.

At the current juncture, Indian Markets aren’t cheap, but they are nowhere close to where they were even in 2008. Since earnings aren’t improving, our markets seem expensive but if (and I know its a big IF), the earnings start to improve, we will get very cheap very fast.

As on date, Nifty 50 is down 17.5% from its 52 week high. In 2011, we went down by nearly 25% from the highs while in 2006, we went down 30% from the highs. Unlike 2008 or 2004, these falls came with literally little explanation and hence aren’t discussed as much as they should be.

Markets once again hit a new 52 week low today and historical evidence is that whenever we have seen such a incident. the probability is high that we shall continue to go down for some more time before there appears some amount of stabilization.

Another 10% or bit more, we will reach a point where the odds of markets continuing further down start receding pretty significantly. Of course, if there is a global catastrophe, India will not remain secluded, but otherwise we should see some sort of bottoming process happen.

January will be the season of the results and February will be a month where anticipation builds up on the forthcoming budget. Unless as I said above, there is a global catastrophe or results are really bad, I doubt we would go into the budget at the lowest end of the spectrum.

Bias: Am bullish (in general) and hold long stocks and long futures (using Option Strategies).

Judging a Fund

One of the often repeated statements I hear is about Distributors advising clients to stick to the funds even though the fund may have under-performed for 2 – 3 or even 5 years (rare but have heard that number). The essence though is that if you stick long enough, who knows, even the tortoise may cross the finishing line (remember, goal has shifted from winning to completing).

I would actually have agreed with the waiting period if some one came up with evidence on why it makes sense to wait for X years in a fund that is under-performing but before we go further, lets first try and understand how performance is measured.

Basically there are two ways to measure performance

Relative Performance: Here, you compare the performance of a fund with its peers. For instance, if you are a investor in say HDFC Top 200, you will likely compare the fund against funds such as Franklin India Bluechip Fund / Birla Sun Life Frontline Equity Fund
Comparing against the Benchmark Index

In Relative Performance, the key is whether the fund one is invested in remains in the top quartile for the maximum period of time. This check ensures that you are with a fund whose fund manager has showcased the ability to deliver the goods.

The second way of measuring performance is by comparing its returns against the Benchmark Index. Any additional returns generated here without adding for Risk is known as Alpha though you will need to make certain that the performance has been delivered without actually investing big time in stocks which are in no way associated with the Benchmark under consideration.

The reason I say this is because, fund managers (especially of Sector funds) have shown how they achieved out-performance by investing in sectors which are no way connected with the core sector the fund is named after.

While you may argue, any out performance is good, the point that gets missed is that the performance may be more due to Luck and less the skill of the fund manager. But I am digressing

Lets start with what happens when funds start under performing for long (3 years by my score is a long time indeed). If you have a housing loan, you will know that all other factors being the same, a small hike in interest rate can extend the term of your loan by years.

When funds you have invested under perform, they impact in terms of how fast you can achieve your financial goals. Remember, the whole concept of Retiring at X years or ability to fund children’s education is based on the assumption that investment in MF’s (which can be a big part of one’s portfolio) yield a certain return. Take out a percentage or two and you will find yourself either having to commit more per month or worse finding it too late that more sacrifices would be necessary to achieve the goals outlined years earlier.

And as much as its true that on the long term, you can get better returns by just sipping regardless of what is happening in the real world, do note that blind investing can only return you average returns (and many a time even worse) which you could have well achieved without having to take the risks that come with the market.

And finally, the fund manager is paid big bucks to get you the extra returns since you can always perform in line with the Indices by buying a cheap ETF (Nifty Bees on Nifty 50 for example).

Investing and a Road Trip

Lets assume that you are on a trip to reach a place which is 100 kms away. Now, lets assume that you need to make to that place in 10 hours. Would you ride 100 kms per hour regardless of road conditions or would you slow down on bad roads and make up the time by speeding on good roads (lets assume a 50:50 split between them).

Distributors of Mutual Funds want you to keep investing in good times and bad the same amount of money regardless of where the markets are (in terms of how expensive or cheap they are), they are suggesting that you ride along the road even though common sense will indicate that it makes a lot of sense to slow down on bad roads (to make the journey a better one) while making it up in good roads (when markets are cheap).

A 5 year return (End 2010 to End 2015) is bound to be disappointing since you entered the markets why they were pretty expensive. But stretch this to 7 years (another 2 years back) and it becomes one hell of a investment even if you did not do anything but sit as markets cratered 30% from its peak in 2011.

But what if you actually reduced your allocation on way up and added the same on way back down? The results thence is even more phenomenal. And before you think about whether I am just using hindsight bias to justify my view, I actually have build a model which reduced exposure as markets went up and added on the way down. And the returns were achieve without having caught either the high or the low.

In my opinion, regardless of what time frame you measure your returns, the overall returns should be not too jerky for even the best of minds can go crazy once we see our lifelong savings evaporating just because something bad happened in a country that one did not know existed before.

If you know your Risk Tolerance, do check out this sheet (Asset Allocation ) which provides the output from my model. Due to the fact that changes can be frequent (once or twice a year at max), I like to use Nifty Bees and Liquid Bees as the instruments of choice.

The age of being average

One of the reasons for investing in Mutual funds is that since you are investing in a diversified fund with a manager who understands market, your returns will be better than what you can achieve on your own (since we fall prey to various Behavioral biases). But once you have decided to invest in Mutual fund, the next key question is, invest in what fund.

Big money is made when you bet big and it works as one expected or more. But when it comes to funds, Advisors want to play it safe. Rather than invest big into 1 or 2 funds, they recommend buying all types of funds with the hope that the average will make the whole play better.

Buying 15 / 20 / even more funds will ensure that you don’t suffer high level of volatility but on the other hand, do not expect your portfolio to beat the market in any big way. But with so many funds, are you really generating real Alpha?

The reason for advisers to advise investing in so many funds is that even they are clueless about both selection of funds as well as what the market has for the future. So, by lumping Large Mid and Small cap oriented funds, they hope that regardless of what is the flavor of the market, they remain secure in the knowledge that at least some part of the fund is invested and hence has not missed the momentum.

Playing it safe is not a bad idea, but if you are looking at safety in numbers, why not just stick to simple Index ETF’s. At the very least, you can be sure that you will not under-perform the markets. By buying too many funds with a lot of overlap in portfolio’s, all you are ensuing is that you get the same return without the advantages of liquidity that come with ETF’s.

Review of the year gone by, 2015

Market participants would have entered 2015 with a lot of anticipation given the strong performance we saw in 2014 and expectations of a block buster budget which would hopefully take Nifty to highs never seen before. While Nifty did cross the 9000 barrier, we ended the year slightly negative with a loss of 4.1% (not adjusted for Dividend).

While large cap remained lackluster, small and mid caps continued to rally. Of the 1405 stocks that were traded on NSE, just 484 under performed Nifty. The best performing stock (among those listed on NSE) was Uniply which shot up from 13.40 to close the year at 159.65. Among the shockers for the year was Bank of India which lost 62% of its value.

Over the past year, NSE continued to introduce new indices though the fact that we do not have any ETF’s that could be traded on them makes them nothing more than a passing trend. Best performing among Sector Indices was the Media Sector while PSU Bank Index performed the worst.

While we saw strong FII flow in the fist half of this year, towards the last few months, they became consistent sellers depressing prices even as domestic institutions tried to make the best of the opportunity. Mutual Fund inflows have been very strong and has been one of the positive factors to look out for as Indians move away from Gold / Real Estate and invest in the economy via the stock markets.

At Portfolio Yoga, we do not believe that one should invest in the markets at all times. Our Asset Allocator infact reduced exposure to markets at around 8800 levels on Nifty (Feb end) and went back to their opening exposure levels when markets went down to 8000 levels (End August). Markets continue to be not very cheap but cheap enough to justify significant exposure even by those who consider themselves as conservative investors.

Markets in India have fallen in 1992, 2000 and then in 2008. This has made forecasters try to present 2016 as the year of the great fall (there is very little harm in crying Wolf year after year as long as you make it presentable). But my own reading is that any fall to even 7500 levels should provide excellent opportunities for the coming future and unless there is a world wide catastrophe, its very unlikely that we shall see a significant fall from the current levels.

Investing they say is a Marathon and not a Sprint. As any long distance runner will say, the secret to crossing the finishing line is not to expend all the energy at the start nor store so much that one is trailing behind literally everyone else. Stick to a process that is backed by evidence in terms of historical testing while also being a strategy that lets you achieve your goals without causing sleepless nights.

Hope you have a Wonderful Year ahead.

Consistency in Mutual Funds

Investors are told not to focus on short term returns (I assume anything lower than say 3 – 5 years) and instead focus on longer term returns since its there that fund managers are able to showcase their ability to provide returns much better than say a simple ETF on the Index.

But how consistent they really are?

I decided to try out a way and see whether funds were consistent in terms of performance. Rather than use 1 or 3 year performance, I decided to use to the 5 year performance as the measure. I also did not pick only the winner but picked the Top 10 for the period under consideration.

I used the Top 10 since it meant that these funds were still in the top quartile and returns were also maybe due to their process and not just Luck (Luck would mean that you do get into the Top 10 maybe once or twice when you bet big on a sector and it worked).

Data for the analysis was as usual from Valueresearchonline and since it does not provide survivor free data, the data presented here has Survivor bias. We really do not know how many winners of yesteryears are no more available for investing (most of the time, funds that fail to meet certain performance (AUM / Returns) are just merged with a better fund).

The best fund based on this analysis seems to be Reliance Growth Fund, but the last time hat fund made it to the top 10 was in 2010 (period under consideration being 2005 – 2010).

So, here we go with the table (click to expand)

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