Prashanth Krish | Portfolio Yoga

A Twitter Poll

Yesterday I carried out my first poll on Twitter and received more responses than I thought I would. Thanks to all those who participated and RT’ed so as to reach more members.

How much of your Net worth is invested in Stocks (Direct / Mutual Funds / others combined). Please RT.

— Prashanth (@Prashanth_Krish) December 25, 2015

The outcome was interesting. The results were pretty much spread across the options. I do hope that most of those who voted based their calculation on the Liquid Net worth (especially those who voted for < 25%). My own exposure to stock markets is currently > 200% of my Net worth thanks to availability of Leverage.

Before you gasp as to whether I have bitten more than what I can chew, let me clarify that unlike a housing loan where one cannot get out of leverage easily, I can easily reduce my leverage to a more manageable limit (heck, if I go short, I can actually go to less than 0% exposure to markets).

A quote / phrase that I often see repeated by many folks says and I quote “Only invest what you can afford to lose”. The assumption here is that even if you lose what you invest, you can go along with your life as if nothing much changed. While I can agree with this quote if you are going to Las Vegas for example, its stupid to employ the same in markets. Yes, there is volatility which means that losses will be there for sure but if you don’t risk, you don’t win. It’s as simple as that.

Real Estate and the Stock Market

Indians are generally fascinated investing in Land and Gold and financial advisers generally try the hell out to make it seem like they are making bad investments out there and how if the same were invested in the equity markets, the returns would / could be much more than either of the two above. But how far is those statements true.

When advisers want to showcase the lower returns by Real Estate for example, most try to chose the one that did not grow. For example, one of the examples that is given to justify that real estate investments aren’t as good as anecdote holds is about how prices in Nariman Point have actually gone down over X years which is Selection Bias at its worst.

Bangalore Development Authority (BDA for short) recently called for applications for allotment of sites and while the response has not been to the extent that it used to get earlier (biggest reason being the higher cost of land this time around), it still will be able to sell off without much of a trouble.

This frenzy to buy even though the layout it developed before this is still entangled in a mess of issues and the fact that they cannot sell for at least 10 years (a kind of lock-in) made me wonder whether people were just investing due to the herd mentality or was there something we really are missing when we recommend investing in stocks vs other asset classes like Real Estate.

Most investors / general public are thought to be financially illiterate though evidence has repeatedly shown that they aren’t the fools that most academicians / advisers think them to be. For instance, if you were to analyse mutual funds and rank them based on their last 5 year returns, just 6% of the AUM resides in those funds that come in the 4th quartile. Some illiteracy that has to be.

So, when investors rush to invest in Land (sites), I wondered whether there was a foundation to the thesis of it being a good asset class to invest. I started off inquiring the returns generated by friends and family on their investments in real estate and while on the extreme short term, returns seem to be plateauing a bit, the longer one goes back, the better the returns it has been.

A investment in 1964 for instance as on date has achieved a CAGR return of 21% while those who invested in the 80’s and 90’s have achieved returns of 20 – 25%. Higher returns have been generated by those who were lucky to invest just before the current bull market in real estate started (pre 2005) with some able to generate >40% CAGR over more than a decade.

Now, if you are a investor / trader in the market, you may think that if the same guy had invested in stocks such as Eicher or Page or whatever is the currently fancied ones, the returns would have been much higher. After all, has not even the greatest investor in India, the big bull Rakesh Jhunjhunwala showcased how he lost a lot of money by selling stock and investing in buying a property (Link).

Rather than compare against stocks, I decided to compare against the benchmark. While Sensex has a longer history, with data of its earlier years being suspect, I decided to use Nifty 50. I could have used Nifty 50 Total Returns Index but did not due to

The length of its history is much smaller than what Nifty 50 provides
Its end of the day, a index that cannot be traded / invested and its assumptions (re-investing for example) cannot be done as easily as its done academically.

To make the comparisons a even keel, I assumed that a investor can only put 20% of the value today and draws the rest from Bank Loans.

Periodicity of the Loan was assumed at 15 Years and Interest rate used was 11% per annum. Since we have a loan of 15 years, I calculate the probable returns of Nifty at end of 15 years. I did this by taking the long term average return over 15 years and then using Standard Deviation to look at both sides of the equation.

For Real Estate, I simply calculated end returns if it grew at X% per annum. As you can see, there are quite some assumptions out here, but the idea was to make the whole process easy. 15 years is a pretty long time and one honestly doesn’t know what the future unfolds, so why complicate when we are looking at understanding whether one asset class is better than the other.

The results were pretty interesting. If markets went up at the average rate they have and real estate prices grew less than 10%, investing in equity was a no-brainer. But if real estate prices grew higher, it would need a stretched returns to generate similar returns from the markets (and the only times we have had that growth is if you have invested just after a bust).

This post is not about convincing you to invest in real estate. Rather, the idea is to open your mind to the fact that blind dismissal of other asset classes may not be a good idea. As a famous quote goes, ” In God we trust; all others bring data – W. Edwards Deming”

The excel file with my workings can be accessed here (Link). I did not use Mutual funds since they too have not enough data and add to it suffer from Survivor Bias. Looking at only the surviving funds can give you a very wrong idea on what the future expected returns can be.

By using Nifty 50, I am missing out on Dividend Reinvesting which should add a bit more to the return, but when was the last time you used dividends to buy additional shares of the company? If you did not, that is one more data that is not accurate in real life.

And before I conclude, above thesis is for guys who aren’t knowledgeable about market and not full time pro’s for whom Nifty is not the right benchmark anyways.

Prediction Impossible

A viral video that is circulating on the Internet is about well known anchor Udayan Mukherjee at a Investor regretting the fact that he as a television commentator (Anchor) has contributed to “leading people to a very short-termist, predictive kind of a mindset, for equity markets.” (his words in Quotes)

For any one who has followed me on Twitter, I am sure you would know that I am highly skeptical of Prediction. But does that really mean any and every Prediction is a game of dice and nothing more. As Philip Tetlock, the noted authority on Forecasting wrote in his recently acclaimed book “Superforecasting” and I quote

“We are all forecasters. When we think about changing jobs, getting married, buying a home, making a investment, launching a product, or retiring, we decide based on how we expect the future will unfold. These expectations are forecasting”

There are basically two kinds of forecasting. Implied forecasting and Explicit forecasting with a thin line differentiating them both. Most of the time, we forecast implicitly about every small thing in our normal life. Explicit forecasting is when we make bigger decisions – the decision to buy a house on loan is based upon our confidence that we will continue to earn in the future which will enable one to pay off that loan.

Most of the time, Explicit forecasting is not something you tend to do every other day of the week. Longer the time frame, higher the probability that forecasting is more explicit in nature and naturally higher is also the risks that the forecast may not come out as one expected.

The risks we take are based on our calculations of how our predictions will work out and whether it is worth the risk. You will not jump off a building from its 50th floor even if you have tied a Net at the 10th floor which will eventually halt your fall. There are just too many moving parts that could go wrong and the thrill of a fall is not worth the risk it involves.

When it comes to finances though, we really do jump off from higher levels and that too without knowing whether there is even a Net at some level that will ensure that one is not reduced to a pulp of broken bones and wasted muscles.

Day in and Day out we are bombarded with information pertaining to both stocks we hold and hundreds of those we don’t. And the biggest issue is that financial media makes it seem so easy.

The other day I calculated that on a normal day, CNBC had broadcast 48 (Buy / Sell combined) trades during the market hours. Even a sane long term investor can get enticed in the hope of some quick bucks.

But blaming the Television Channels is wrong since end of the day, its business for them and they will only showcase what they believe the viewer wants. Given the fact that there are these days hundreds if not thousands of Analysts who survive by selling fear with the hope that at least a few of them will be interested enough to check out their paid services.

Investors are generally fearful and want guidance for which they turn towards the financial media which is filled with quacks out to make a big buck by playing on one’s greed.

I don’t watch business channels but I am pretty sure that its rare for any Analyst to come out there and say that he honestly doesn’t know what the long term holds and the best way to play the markets for the vast majority who have no clue on how to read Balance Sheets or write programs to identify stocks that are meeting certain characteristics is by just investing regularly in Nifty Bees.

Channels like CNBC have done a great service by bringing the markets closer to the investing public while at the same time they have done irreversible harm by having programs where stock picking is seen equivalent to a game of Dice.

Before the advent of Social Media, Television was the way to get access to news as soon as it hit the wires. These days though, you are more liable to hear things first on Twitter and only the be confirmed on Television.

As a Investor / Trader, I believe business channels have long lost the relevance it used to have. Websites like ValuePickr have made Analysis more crowd sourced and of a much better quality than even those put out by brokerage firms.

With the limited time we have, I believe that the worst way is to spend on watching the Idiot Box especially the financial media. If you were not convinced earlier, hopefully this video by Udayan convinces you of the futility.

Video Link

PS: My view is biased due to the fact that I neither have appeared on Television nor have anything to Sell. So, there you go 🙂

Future Uncertain!

Many moons ago when my Sister was born, a relative of ours recommended a financial scheme where we invested X and when she reached 18, we would get back 1,00,000.00. In those days, 1,00,000 was a very huge sum. In fact, the cost of building a simple house more or less was equivalent to that amount. That sum was assumed to be good enough for Marraige and more. But when she reached 18, forget getting married, her Engineering Fees was nearly 50% of that for every year.

Most investors invest with the best of intentions and hope that things work out as planned and enable us to meet our Goals. But do we really have a clue as to how the future unfolds and how best to prepare for them?

Equities are claimed to be the asset of choice if you need to beat Inflation and evidence does show that there is merit to that argument. But the evidence is nothing more than a look at the rear view mirror. While the logic behind is indeed sound, the fact remains that end of the day, there is no such thing as a Guarantee in the world of finance.

On Twitter (where I am active), I get into frequent debates with distributors of Mutual funds on whether Direct is the way forward or should one go through a Distributor. Both have their Pro’s and Con’s, but the unfortunate thing is that you are no wiser as to what is the right choice until its been too late to change.

While no one can guarantee about the outcome of investing today, a qualified financial planner can help you make the necessary changes as time goes by. A mutual fund distributor is not a financial planner in any sense. He is no more than a salesmen hoping to make a sale while in turn will provide him a Income.

While he will to ensure continuity try his best, the fact remains that he can only do as much as his knowledge enables him to. Any and every action of his has to be backed by evidence which in turn has to pass through the biases we frequently face – Survivor / Selection among others.

In the aftermath of the housing crisis in US, there were hundreds of stories about investors who lost everything and were forced back to working at a age when they should have led a comfortable retired life. While its easy to blame them for their greed and lack of understanding, its a story that is repeated across countries and across generations.

Fixed Deposits / Gold / Mutual Funds / Real Estate all have their place and time. While the proponents of Equity will have you believe that FD is the worst form of investing, if you had invested in a FD 5 years back and you were in the Zero Tax bracket, you would have made more money than investing in Nifty Bees. And all that without having to bear the pain of negative volatility.

End of the day, its your money and your future that is on the line. In times of need, its you and you alone who has to face the responsibility, blame game can only go so far.

Asking the right questions

In the movie, I, Robot, James Cromwell playing the part of Dr. Alfred Lanning make the following statement.

I am currently exploring the field of Data Analytic’s and Algorithmic Trading. One key aspect of this compared to the other ways of Analysis (Technical Analysis for example) is that one needs to throw the right questions to be able to get answers that can help us understand market actions better and in that way enable us to make the right decisions on When, What and How much to Buy / Sell.

In advertisements of Maruti, the key question that gets asked is “kitna deti hai”. While this is supposed to go with the Indian mentality of looking at the maximum mileage for money (fuel), the question that does come up is, Is that really the biggest question for a probable Car Owner. Yes, mileage is a important parameter, but how much important is it when compared to say a factor like Safety?

In the Mutual Fund / Stock Market arena, every adviser seems to suggest that without his guiding light, its easy to get lost. Assuming that is true, what are the right questions to ask such advisers? What are the right questions to ask?

Is asking about performance (of the past) a good question? Most advisers suggest a set of funds to Buy based on multi year performance. Stocks that have shown momentum in the past are seen as potential candidates to provide the best returns in the future as well. But how true is this given the fact that there is a large amount of Survivor Bias that is build in.

These days I am finding advisers providing solutions which supposedly address long term goals such as Retirement / Marriage / Education, etc. As much as the idea is nice, how many clients ask the details behind how they come up with both the list of funds to buy and the amount to buy (based on what we want at the end of X years). Much of these calculations are based on projections on how the market shall perform, the interest rates one can foresee in the future, the inflation we may face among other macro ingredients.

When Economists get long term views wrong, what are the chances your adviser shall get those numbers right? As much as one understands the variability of such forecasts, one does wonder what is the worst case scenario since as we come closer to the target area, there is little time to make up for major deficiencies.

In most industries, if you deliver your client a shoddy product, not only shall you lose the client but also may have to miss the payment due from him. Investment advisers do not leave that door open as they ensure that perform or not, they receive their dues well before the time of delivery. Isn’t it time to ask them, Why?

Inactive Intraday Trading

In the book, Trading in the Footsteps of Sherlock Holmes: Balancing Probabilities for Successful Investing, Dr. Anthony Trongone defines Inactive Intraday Trading as some one who is not actively following the market but trades when it works best according to the system or fits within one’s specified trading schedule.

When I tell people that I am a full time trader, most of them assume that I am a guy who is stuck to the monitor for the duration of the market as I try to decipher the dark secrets of the market and pull wool over my competitors (other traders who take the position opposite to mine). Of course, that is far from the truth as I spend more time away from the monitor than in front of it.

Even though I do trade on the Intra-day time frame, my average holding period for a trade is around 5 days and that means that more often that not, I have not much to do other than twiddling my thumbs so as to speak. And then again, since at the current juncture I do not trade shorts (most trend following systems haven’t rewarded shorts for a long time now), the holding becomes even longer.

For instance, I got out of my long on Monday & have not placed a trade till date. The thought that immediately pops up will be, WTF! aren’t there a lot of other opportunities present in the market and would not it make sense to try and maximize the capital that is otherwise being left underutilized?

In most business, more the time you spend, greater the possibility of a higher income. If a Taxi driver decides to drive for 12 hours instead of 8, he has a very high probability that his Income will be higher (even after accounting for the Expenses). The same applies to a whole lot of other business / professions as well.

But when it comes to trading, more time or more trades does not have to mean a better result. Trading is asymmetric by nature which means that some one who places just a single trade may actually be able to beat you even though you are trading ten trades every hour.

Markets provide opportunities for a trader every day, every hour, every second. But be as it may, the fact remains that we can identify, execute and capture only a very small number of such opportunities. Only in hindsight do we realize whether we were truly successful or not.

But there is also the bigger issue of position sizing. If you put in a large number of trades, the risk per trade needs to be pretty low. But if you were to risk a small amount of capital, the rewards too will be small when measured against the total capital available.

On the other hand, if you were to start risking bigger chunks of capital, you could either start blowing up through you account way faster than what is sustainable or end up moving the markets every time you take a trade since the quantity you trade is higher than the liquidity that is present in the market. Either of them is dangerous to the health of your capital and since the impact of losses are much higher than the happiness of wins, the damage to the traders health can be pretty dastardly.

Since 1st January 1996 till date, CNX Nifty has moved up by 7211 points over a period of 4929 days giving us a average gain of 1.46 points per day. But if you were to have a crystal ball which could predict before close of today the closing price of tomorrow, you could have gained those 7211 points by being in the market for just 32 days (0.65%). Yes, just 32 days of rise accounts for the total gains made by Nifty over the last 19 years.

My point in providing the above static is not to say that one needs to search for a Crystal Ball (Holy Grail) that can identify such days. Rather, my thought out here is that the above numbers showcases the fact that with the right tools and strategies, no investor / trader needs to be distraught at missing small opportunities. On the other hand, its important that not only we have a system that can be rightly positioned when the big moves happen (here is a clue: most big moves have happened in line with the trend that was in effect) and more importantly we have the know how and ability to bet big.

Trading can be a enjoyable and profitable venture. Do not make it into something that eats into your life day in and day out. No amount of money / profits that you earn by taking that kind of stress can ever repair long term damage to the health and psychology that occurs due to such continuous strain.

The power of Authority

Yesterday as I watched the Bio-drama based on the life of Social Psychologist Stanley Milgram and it occurred to me that the same reasoning may hold good for why despite plenty of evidence, investors in market believe that by paying some one, their investing results may get better than what it would if they did not.

A very long time ago, I started a website where I wanted to share my system signals with the investor community at large. Of course, this was no philanthropic endeavor as I charged a princely sum of 1K per month. I also changed the way as to how the client paid by having him pay after the month was over (and was profitable) rather than have him pay first without any linkage to actual achievement.

While the site died within a couple of months as the system faltered and barely made any money ( I traded all the Signals personally as well), looking back, it was a very educational experience. I still remember friends of mine who had subscribed to my service (friends acquired via the Social Media rather than the old kind of friendship) claimed that the performance was not so bad since they rather than waiting for my Sell signal had booked profit in the interim (being a trend follower, I till date do not believe that partial profit booking can be a profitable way for systems which attempt to catch the outliers).

Fast forward to today and I see a large number of advisory services (most of them nothing more than a shack in a box) who claim to be able to provide you with the know-how of how to navigate this treacherous market for a small fee per month / year.

Its a well known fact that 95% of traders end up bankrupt over time (friends of mine who are NSE members say this percentage is even higher). Most investors too end up substantially under-performing the markets as a whole. There have been realms of data behind both of these available for quite some time now.

Despite the orgy of evidence that suggests that most of us are better off with simple investment products like a ETF / Mutual Funds, day in and day out people go out and pay advisers, most of whom would be no better than they themselves but for the fact that they seem to talk with a certain Authority.

Its honestly amazing how many are able to talk with such a authority that makes you feel that maybe they have the market all figured out and you the lowly human being are better off subscribing to his service. Come to think of it, this bias does not come due to the evidence you have in hand – while every tip seller claims to have bought untold riches to their subscribers, I know of none who are willing to provide you with a long documented and audited track record.

There are no guarantees in market and I am sure everyone accepts that. Yet, isn’t it amazing that tip sellers want you to trust them with your money (first in terms of subscribing to their service and second in terms of investing your savings based on their advise) without a iota of proof that they actually are able to do what they claim to do?

The other day, some one tweeted this

Most people would rather lose 50% on free advice than make money on a paid one !

As is my wont, I tweeted tongue in cheek saying

If Paid Advise could “Guarantee” me my Capital (forget Profit), why not?

Before reading any further, can you think of what I have missed in my reply?

What I missed saying was the time frame. I did not lay out a fixed time frame within which I wanted my capital back. In other words, I left the door open just in case some one felt that he could provide such a service if there was no fixed time frame.

Unfortunately, none caught onto that and instead harped on how even Lawyers and Doctors do not guarantee any results. But that is a outright lie and everyone knows it. Doctors for example are able to treat successfully a large number of ailments and in cases where they can’t, its well known even beforehand.

New evidence that is coming to the limelight (in US specifically) suggests that you may well forget beating the market consistently for a long period, that is not going to happen. Even generating 20% compounded returns is a mission impossible since at some point of time you will have to end up owning more than half the market.

While I myself do not subscribe to any vendor, I do wonder as to what makes a large proportion of investors / traders root for the guys who sell subscriptions despite the fact that they are as blind as others when it comes to knowing whether the guide really has a deep understanding of markets or whether its the Authority bias that makes us believe he knows better and hence not want to question him.

Long time ago, a friend writing in his blog said that if one wanted to really get onto fund management / advisory, the least he should have is a nice car and a nice office. What he left unsaid was whether it was necessary to actually know anything more about the market than the average Joe on the street does.

Over time, I have been able to make friends with a large number of professional investors / traders and one thing I have found in common is that the better you are in analyzing the market, the lower the probability that you have anything to sell.

Remember, the market is the only field where you can survive based on only your knowledge. A doctor, no matter how great he is, has to have patients if he has to put bread on the table. The same holds good for a Laywer / Chartered Accountant / Salesman / ….. No other fields provides one the opportunity to make money sitting in a air conditioned cubicle without having to bother with clients, payment deadlines / strategy meetings and what not.

So, the next time some one approaches you to pay for their services, at the very least, question them on what they bring to the table and what is the proof they know what they claim to know.

“In a World Of Talkers, be a Thinker and a Doer” – Anonymous

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