Commentary | Portfolio Yoga

Robo Advisory and India

Financial Advisory business is a big business outside India and when one says outside India, its specifically meant in US / Europe. They provide detailed personalized advise to their clients on the kind of investments that need to be done. But personalized advisory is expensive and hence most advisers take on client accounts only above a certain net-worth. The Private Wealth Management (PWM) division of UBS caters to clients with minimum net worth of $25 million.

But there are only so many rich guys / kids around. Before the advent of technology, you could do little for the small guy on the street who would have loved to have some professional advise on how to deal with his money so that he can achieve his goals other than by way of DIY.

Technology has been a great leveler though. Today, a man on the street can be serviced by these very firms but all without having to allocate a army of advisers. Instead, most of them build a model questionnaire and based on the results gathered, select previously developed models that are suitable.

While Robo Advisory is active in US since 2005, its only recently that we are seeing firms launch their own solutions in India. In fact, one of the goals of Portfolio Yoga is to become a Robo-Adviser.

Before I attempt to take on the India model, let me provide a brief about how the US model operates. Like India, in US, you have 3 avenues for investing in markets

Hedge Funds (for the Ultra Rich)
Mutual Funds (for those looking at Active Management)
ETF’s (for those Passive Investors).

The total AUM more or less is in the same order as well though owing to the fact that many Hedge Funds are not domiciled in US, data seems to suggest that Mutual Funds are a major asset class with total AUM being > 15 Trillion USD.

Passive Investing which while has been available for a very long time has only post 2008 picked up in terms of a better way to invest money in markets since research after research has showcased the fact that very few funds can consistently beat the markets.

But while ETF’s maybe a poor cousin, the total AUM is nothing to sniff about. As of December 2014, the total number of index-based and actively managed exchange-traded funds (ETFs), including commodity ETFs, domiciled in the United States stood at 1,411. Total net assets of these ETFs were $1.974 trillion.

Compare for a moment to the current situation in India where only a dozen or more ETF’s are available and even the best of them have huge liquidity issues. We have a long way to go before we catch up to the size (in percentage terms if not AUM) of the US Market.

But, lets not digress. Back to the Robo Adviser, how does it operate in United States?

When you sign-up for a Robo Adviser, you generally fist go through a series of questions to determine your savings, spending and goals after which the model provides you with a asset allocation strategy that suits you.

You sign-up for their services and ideally handover your money to the custodian (TD Ameritrade for example) which is then invested based on the allocation model that was selected as being best for you. Most Robo Advisers use the low cost ETF’s as the ideal vehicle to invest via and since ETF’s don’t pay a fee for getting investors abroad, the adviser shall charge somewhere between 0.02% to 0.75% on the total assets.

In India though, there is a issue. As we saw earlier, our ETF is a really small part of the financial exosphere and guess what, Indians want everything to be Free.

The model that is right now available in India is hence FREE (and as with other good things in life, nothing comes for Free, Right?) and rather than build on the ETF gets build on the Mutual Fund.

But there is a issue out here. Most Mutual Funds have a very high expense ratio (2.25% to 3% )if you were to go through a distributor. And since fund managers do not want clients to withdraw within short duration, you also have a exit load (which at the initial stages can be fairly high).

Over long periods of time, Mutual Funds seem to have produced tremendous amount of Alpha. But as you start shortening the time scale, you can see that most (average of Top 10 funds for example) cannot beat the returns given by a simple combination of a Large Cap ETF (Nifty Bees) and a Mid Cap / CNX 100 tracking ETF.

I believe that as markets get more mature and our Index is able to capture much of the total market in a small list of stocks, the probability that any fund manager will be able to beat it year after year will reach Zero, but thats my view and only time can answer whether I am right or wrong.

I have not used any Robo Advisor solutions available in India and hence cannot claim to know first hand the weakness of strategies used by them. But by using Mutual funds, they are

Cannot call themselves conflict free since the fee could influence where money should be invested (not that it shall, but money does speak)
Solutions offered by them aren’t cheap. If a In and Out costs you 3 – 5% of your investment, its shall have a pretty adverse affect in the long term regardless of what the adviser shall claim.

Re-balancing is Tax advantageous in US due to the fact that US has both Short and Long Term taxes. But in India where long term is free (and lets be honest, 1 year is not actually something that could be called Long Term anyways), does it really make sense to claim harvesting of losses as some claim (copy / paste from US I wonder)

Once upon a time, Stock Brokers used to charge brokerage of 2.5% and some more (difference between actual traded price and the one you were given). But competition ensured that today you can trade literally for Free (subject to conditions of course).

While Robo Advisory is claimed to be Free, the charge you pay is actually around 0.75% of your total investment and since we are dealing with percentages, as your AUM grows (Organically or Inorganic), so does the amount you pay to the adviser.

While for small accounts, this may not make a lot of difference in monetary terms (it does in percentage), as you grow your AUM, this amount could equal or more what even fixed fee advisers charge (not that finding them is easy, fixed fee is not something that is widely accepted as a model).

Since no one knows the future, no Adviser will even assure you of whether your long term goals can be achieved even if you stick to the model they prescribe (think about a Doctor saying, well, take this medicine for X years at the end of which I am sure you will be perfectly fine, but if not, maybe we can think about what to change then) unless they invest totally in Fixed Deposits which assure you of a certain maturity value.

For now, Robo Advisory appears a sexy way to invest, but if you were to dig deeper, all you will find is that is actually the most expensive way with the only hope being that funds continue to deliver Alpha and in that way falsifying all the years of research that US has seen.

Human behavior is tough to change and as much as I rant, I do know that not many will even think about this, let alone act. But if this post makes you think, I think this mornings work is well worth the time spent.

Resources: Betterment

Hundred Percent Guaranteed Return

For quite sometime, fund managers in unison claim that the singular important reason for one to be invested in equity is that historically they have provided around 17% CAGR without at the same time telling you that the data for the starting years (especially from 1979 to 1986) is highly suspect. Debashis Basu of Moneylifers had written a wonderful article for the Business Standard and if you have not read it, I urge you to (Link).

Advisers on the other hand never stop preaching about the benefits of investing in Mutual Funds via a Systematic Investment Plan (SIP for short). The other day, in a discussion about SIP (Investment in MF) vs EMI (Housing Loan), the discussion veered to how SIP’s were for on a average 2 years while EMI’s ran for a minimum (avg) of 15 years or more.

But do long term investing in Mutual Funds (via SIP) assure you of Profits? The data from India is pretty small to use for longer term analysis. On the other hand, we have data in US which goes back for more than a Century. so rather than use Sensex data, I shall use Dow to provide you with some estimates.

Why Dow would be the question you would like to ask (other than having a larger data set). We all having our country bias, would love for India to move in the way US has moved from a developing country to not just a developed country but one with a consitution and politics similar to India (of course, we follow a West Minister model, but I hope you get the point).

Long term country forecasting is tough, rather Impossible I would say. When India attained its Independence, we could be clubbed with a lot of other countries which had similar GDP / Capita, GDP Growth, etc. 68 years fast forward, many have gone so far way ahead that one really wonders if we could ever catch up with them.

Even as late as the beginning of the 70’s, you could have easily pointed out to China and India being near equals. Once again, passage of time has meant that India has been left way behind in the growth race and catching up with China will be a herculean task if there was one.

I am looking at only posiitve’s and not negative’s like many a country in Africa / Middle East which were way superior to us at one point of time just to see the whole country ripped apart (Iraq / Libya / Rhodesia among others being the prominent members of that club). Even Russia went through a painful process in the 90’s and seems like its on the way back there unless it can really change itself.

Indian’s love Gold and Real Estate much to the dismay of fund managers and advisers who claim that these are assets that will not beat market returns even though in last 50 years, anyone and nearly everyone who has invested in Real Estate would have come out head over heels when compared to any other asset classes. The reason for the love (at least in case of Real Estate) has more to do with Recency Bias. You know that the property that your Grandfather bought has appreciated by XXX% and your father bought has also appreciated significantly. It hence becomes no brainer that one buys property not just with the hope of appreciation but also with the knowledge of it being as safe asset that will yield a income or allow one to live Independently (the number of persons with Second homes is really small & is a real minority anyways).

Mutual funds in India (at least a few of them) have been able to beat the markets but with markets getting more mature, will mutual funds be able to sustain such performance?

In US, over the last 10 years nearly 80% of Large Cap funds has not been able to beat their Benchmark. In the future, I would think that we too will more and more mimic such performance rather than being able to beat the benchmark head over heels.

So, coming to back SIP, have you ever asked a Advisor as to how much time he will have to invest to be completely guaranteed of the fact that the value of the investment will be greater than the Investment itself? As I wrote in my previous post, there is a pretty big possibility (I used Sensex data for the calculation) that the investment could still be under water.

But since data for Indian markets is fairly small, I wanted to see how long it would have taken for a SIP (data is from Yahoo and adjusted for Dividends) on the Dow to be guaranteed of success. The results surprised me. Do note that data starts from around 1880 and is till date and hence accommodates the two world wars, the Great Depression, the countless other bear markets. In other words, this market has gone through everything that we can think of as happening over the next 50 years

So, before further ado, Ladies and Gentlemen,

Based on above data, you will have to have invested over 40 years to be sure to eliminate even the minutest possibility of a loss. I agree, this is really the worst case scenario, but something that not too many even know off, forget keeping in mind when allocating capital to Equities via either a ETF or Mutual Fund.

Not knowing the future, decisions taken now can in hindsight look either as Genius (Real Estate (historical) falls into this category) or plain dumb (failed attempt at starting business). When investing, it hence becomes a key that you have all the possible info on hand before allocating funds for no one knows how the future pans out and while its not important to look like Geniuses, its also important that we do not end up looking like abject failures.

And everything begins with one starting to ask the Right Questions.

Change in difficult

I am a sucker for quality writing and twitter has exposed me (and anyone interested) to a host of writers who are able to produce writing of a quality that is seldom available (and much of this is actually free, think about that).

Just this morning, one of the bloggers I never miss to read tweeted this

People in the investment industry spend far too much time trying to convince others about things they’ll never change their mind about

— Ben Carlson (@awealthofcs) September 24, 2015

Reading the above tweet made a lot of sense of why despite tons of data and articles, investors rarely make the right choices. Changing one’s view requires one to first accept that the current view maybe wrong and who in the right mind can accept that challenge.

Writing in his novel “Unwind”, there is a dialogue between two characters and I quote

You can’t change laws without first changing human nature.’
-Nurse Greta

You can’t change human nature without first changing the law.’
-Nurse Yvonne”

The finance industry is one where investors are taken for a ride and most of the time its despite the investor not being as clueless as he is supposed to be.

Take for instance the huge industry of advisory, specifically stock advisory. Just a simple google search for “Nifty Tips” gives me 3,38,000 results. Adding more options will (Commodities, Stocks, Forex) will needless mean a even bigger number. While there would be some amount of overlapping, I am sure we can hypothesize the size of the Industry.

With a intention to regulate the Tip Community, SEBI came out with new laws making it mandatory for Advisers to register with SEBI. When I checked the list yesterday, I could find 313 (not all of whom are Advisers who advice on what stock to Buy / Sell) which IMO is too minuscule a number. I am pretty sure that if you were to watch all business channels for a week, you will find more advisers than that number.

But leaving aside that, while in a previous post, I welcomed this attempt to regulate by SEBI, I had my worry on what exactly it would mean other than the fact that you had to put in a registration form and pay a fee to SEBI.

In a age where most of us stumble on managing our own finances, advising others isn’t easy and yet, there is nothing to say that a adviser needs to have some professional qualification (and am not speaking about MBA either).

Earning any degree requires one to master the art by studying for years and then passing the exams which try to determine how good your concepts are. But what if I was given a degree for just registering and paying a fee? You would straight away tell me that all I have is a “fake” degree.

Just today morning, a financial adviser writing in a Financial paper wrote and I quote

“Have a mix of around five asset management companies (AMCs) for a portfolio; and a choice of two-three schemes within each AMC”

With 15 schemes are you really better off than having say 2 schemes? Is there any data backed evidence to say buying more funds (which have plenty of overlap of portfolio given the fact that the whole Mutual Fund Industry has very few stocks which it can easily pick) will provide one with a lower volatility of return?

I have in the past written about why Direct is the way to go for the Investor (if he is inclined towards mutual funds) and yet, the whole business of distributors passing themselves as advisers is a never ending saga. Is your distributor really providing you with information worth paying for?

These days, its all about investing in SIP for long time with the anticipation that thanks to compounding, you will be able to reach your goals?

The other day, I tweeted this picture

This is based on test I did on Sensex (n = 417). How many advisers have preached that, there is this possibility of the fact that the market value of your investment after 10 years of constant Sipping month after month could still be in negative territory?

I have not used MF data for above test since I do not have access to Survivor Free Mutual Fund databases. Using data from websites shall give you wrong results since they don’t include funds that failed and got merged in between. All you see are the winners.

To me, Advisory is one of the easiest way to earn a living in markets. No one has a clue other than the fact that maybe he is a better salesman than you. Yet, people pay good money to listen / invest on recommendations by folks who are able to talk their way through bullshit if need be.

A ex mutual fund manager who has a terrible record as a Portfolio Manager is now a SEBI registered analyst and comes on Television advising one and all. Do you really want to listen to guys such as these whose own history is strewn with losses (and that too in bull markets no less).

To conclude, I am not surprised to find reports suggesting that the average investor severely under-performs the market (based on US data). After all, he has made up his mind on the fact that Passive is bad and Active is good and no amount of good advise is going to change that.

Post Script: The pic had wrong data for Best Gain and Worst Loss. Thanks to Karan for pointing it out

Gann Day & its Implication

Today it seems is celebrated as Gann Day. I learnt this via blogger, Eddy Elfenbein who himself references this article from Barron’s (Link).

Gann has quite a large number of followers who believe that the future can be foretold using methods preached / written down by Gann. While I am a strong disbeliever in one’s ability to know how the markets will unfold in the near term future (its much easier to predict the extreme long term – it will be Up :)).

The thing about Gann day as the article explains is that and I quote “when markets are more likely to reverse than any other day of the year.”. Since I believe only when such wide (wild?) predictions are backed by substantial data, I decided to check the behavior of Nifty 50 in the following days of September 22.

Data itself is pretty hazy showcasing more of randominity than there being any order which in itself does not surprise me. A single day cannot be a major turning point year after year. In fact, even in cycle theory, practioniers look out for cycles that vary and aren’t concerned with it being of a fixed nature. Its only the ease of plotting cycles in our charting softwares that make us look for fixed width cycles.

As the data below showcases, after 2008, markets have barely moved much for the next 3 months (60 Calendar days). Then again, there is always a first time 🙂

ETF or Mutual Fund

For years, any investor who wished to invest in the markets without having to do a lot of homework, the easy option was to invest in one of the several mutual funds and sit tight. The basic concept here being that the fund manager has a certain expertise and hence will be able to generate good returns on the pool of money so collected.

While ETF’s have a history of their own, it was not until Vanguard hit the scene in 2001 that is started to become more and more noticed as a instrument of choice given the low cost such funds charged.

Over the years, there has been enough of documented evidence to prove that ETF’s may actually be a better tool to invest compared to a Mutual Fund. Both a Mutual Fund and a ETF provide relative returns – in the sense, returns are measured against a set benchmark. While a Mutual Fund manager tries to beat the market to justify his higher expenses, a ETF manager just needs to ensure that the ETF tracks its benchmark as closely as possible.

Unlike a Mutual Fund, a ETF manager cannot and will not buy outside his benchmark to help generate so called “Alpha”. At best, he may vary the weights but even that is not generally entertained given the fact that discretion can cause havoc with the tracking error.

In India, the ETF Industry is still in its infancy with only Nify Bees having some amount of liquidity. Also, there is widespread questioning about whether the Indian Markets are really suited for ETF’s with fund managers claiming that Indian Markets still provide for opportunities for fund managers to deliver Alpha and that ETF’s aren’t the best tool for investing in India.

Its tough to ignore that view since quite a few funds have delivered returns superior to the ETF / Index. But the question is, did they beat while sticking to the benchmark stocks? In majority of the cases, its not.

While Large Cap funds generally benchmark themselves to Nifty or CNX 100 / BSE 100, its not unusual to find in their portfolio names of stocks that are outside the said Indices. In bull markets, its these stocks that provide them the additional reward though in bear markets, they do have the ability (as shown in the fall of 2008) to drag the fund performance even below its Benchmark returns.

The question that one does come to finally is that if a Investor is able to split his investments between Large Cap ETF’s (Nifty Bees for instance) and ETF’s tracking Indices such as CNX 100 / CNX 500, would he be able to generate better returns.

A list of ETF’s (Equity) listed on the NSE can be found here (Link)

While both Nifty and CNX 100 are represented, its disappointing to see no ETF’s tracking the broader CNX 500 Index. Either way, unless there is more interest in ETF’s its doubtful to see fresh ETF’s being launched.

To decipher whether by dividing our capital, we can generate returns similar to the best mutual funds, I used Nifty Bees for Nifty and the respective Indices, CNX 100 and CNX 500. Since NSE does not provide total return Indices for Indices other than CNX Nifty, I used the general Index.

The key difference is that in all the above tickers I have used, I have not accounted for dividends that get paid. While small, these do have a impact on the overall returns if the same is invested back.

To answer the question as to how much one should invest in Nifty and how much in a CNX 100 / CNX 500 ETF, I drew the following matrix

The returns generated above are CAGR returns (without accounting for Dividends). In case of Mutual Funds, all the selected were Growth Schemes.

Top 10 Mutual Funds are selected based on Category and look back period. So, 18.37% represents the average return of the top funds over the last 3 years. Now, a few may be in the other brackets and a few others may not be. Idea was to select and compare with the best possible (which is known only in hindsight) options.

Even in the above matrix, there are issues when it comes to comparing against ETF’s. For instance, the the top performing fund on the 1 year look back was ICICI Prudential Advisor Series -Very Aggressive Plan (G). Now, the plan is more of a Allocation Model with 80% of its funds being invested in Debt and only 20% in Equity. Its no wonder that even as the broader market showcased negative returns, this generated strong Alpha.

As the above table clearly lays out, investing 60% in CNX Nifty tracking ETF and 40% in CNX 100 tracking Index provides the best return which beats the return of almost all Mutual Funds. And best of all, you do not need a Advisor to guide you since all it requires is a call to your broker and buy the concerned ETF’s in the proportion that one is acceptable with.

And when it comes to the question of how much to invest, do take a look at our Allocation Matrix (Link). All in all, investing is simple, all it requires is a bit of discipline and hard-work of buying and you can be your own fund manager.

The biggest advantage of a ETF over Mutual funds is the fact that you can exit whenever you want without having to worry about paying load (which can be pretty huge) due to the short amount of time spent with the fund. This allows for better allocation as you can move in and move out without the need to wait for the minimum time to elapse.

Low RSI and future Returns

Good friend, Nooresh has recorded a presentation where he showcases as to how a low RSI has more or less meant a sharp move on the higher side in the coming days. While his presentation (you can check it out here) provides us with visual evidence, I wanted to see how this would translate if I left out the chart and just used data points from the day RSI went below 30 (14 days of lookback).

Here is the pic of the days and where Nifty ended 5 days, 10 days, 20 days, 40 days and 60 days later.

and here are some stats culled from the above data

As can be seen, while its true that this can turn out to be a great opportunity to buy into the decline, it does not come without some amount of volatility. Most of the negative out there were from bear markets and unfortunately its only very late in the day that we find out that the fall that seemed out of the normal was just the start of a extended phase of bearishness and not exactly “buy on dip”.

In my last blog post I wrote that I do not believe (again, backed by historical data) that markets are cheap (there would always be some stocks that are cheap, but then again, we are looking at the overall markets) but yet cheap enough that some amount of exposure is warranted. The above data to be is inconclusive as to whether this is the final dip before we spring back to new highs or one that is one of the several dips we may see going forward.

As a trader, I am currently long but as a investor, I would wait for further evidence to build (of course, evidences comes with cost of opportunity) before I think that the current markets warrant 100% exposure (current exposure levels based on my Asset Allocation model is max of 50 / 60% for the aggressive investor) .

Blood on the Streets?

Today was a record breaking day in many aspects. The opening gap down for instance, we last saw something bigger way back in 2007. The net change for the day was a 3.5 standard deviation of daily returns, something we last saw in 2008. Not a single Nifty stock ended in positive territory, not even defensive stocks which got hit (though compared to the battering many other stocks got, this was more of a slap on the wrist).

We can slice and dice data in many ways, but what it won’t tell us is whether the fall is a sign of a long term bottom being formed (panic bottoms are generally ones that aren’t easily broken) or this is just the start on what could be a long journey into the dark world of bears.

To being with, lets look at two fundamental based charts. PE charts of Nifty and CNX 500. The key reason for looking at these charts is to understand where are in relation to the past.

Lets first start off with the broader CNX 500 PE chart. While today’s fall has meant it broke down below the 2nd Standard Deviation, the fact is that even today, CNX 500 is very expensive. While there maybe pockets of value, on the whole though, market seem to be on the expensive side and since there is vast amount of evidence that buying a stock when its expensive is as bad as buying a bad stock, its tough to lay out whether we should jump in after today’s fall.

Since the PE ratio also accounts for results of the June quarter, the next trigger can only be in September if companies come up with splendid numbers. But with GDP growth slowing down, its a question as to whether companies can actually match market expectations.

On the other hand, while Nifty going by its PE is not as expensive as CNX 500, its not in the area of cheapness either and this creates a dichotomy in a way. Can mid caps correct without there being a impact on the large caps? While Nifty PE moved below the 1 Standard Deviation thanks to today’s fall, its not exactly in a area of cheapness.

After the Modi victory, markets realigned themselves with the hope that with strong growth, even if a company is over valued in today’s terms, they shall get back to normal by way of better earnings. Unfortunately, anyone who has kept a eye on earnings has been disappointed by the lack of growth in majority of companies.

In bull markets,, all kinds of reasons of why a company is not growing gets accepted without much damage to the price, but once markets starts hitting a trough, every company gets its growth put under a microscope to determine whether there is really stuff out there. We are currently at one such stage.

Today’s fall has created a lot of interest as to whether we are seeing a situation similar to what we saw in 2008. While one can only be sure in hindsight, I am pretty confident and shall stick out my neck to say that this ain’t 2008 repeat. But then again, while we remember 20058 thanks to recency bias, what worries me is whether this is a action replay of what happened in 1997 Asean Crisis.

While Indian markets were not as exposed to the world events in 1997 as it is today, by the time the bottom was made, Sensex was 31% below its 52 Week high. Even accounting for today’s fall, we are just 13.6% from our 52 Week high.

Just like in 1997 when most countries were not sure of what was happening in the Asean countries, similar is the situation today with respect to China. The opaqueness of the situation creates a scare that is larger than what may actually be the true picture.

Sensex hit a 52 week low today and while that may seem damming, its a good thing since historically, the first low after a series of highs has never continued without there being a strong bounce back to scare off even the strongest bears.

While FII’s sold heavily in the market and hence maybe in a way accelerating the decline, purely based on how the Rupee has behaved against the Dollar, I believe that India is still relatively unscathed with depreciation not amounting to much (which in other words suggests that while FII’s maybe selling, they aren’t taking out money from India).

But having said all that, I continue to believe that there is no reason to be aggressively long in this market. My own Assset Allocation meter suggests just 55% exposure to equities. As a saying goes, while the early bird gets the worm, the second rat gets the cheese. Regardless of today’s fall, I continue to believe that Risk Reward wise, we aren’t in a stage where markets are a blind buy.

Yes, Analysts may talk about how selective stocks / sectors are performing better, but unless you believe that you can identify them in advance, the best thing to do will be stay on the sidelines with cash ready to deploy.

They say, Patience is a virtue and for a investor, its important to be aligned correctly since the short term (1 – 3 year) returns are dictated by when you enter. At today’s PE, the 1 year forward growth is still an average 5% but at 19, this moves to 11% which given the circumstances will be a very good return if that gets achieved.

The following table should provide you with perspective on what to expect (based on historical averages) if you were to buy at X times earnings on Nifty

To conclude, if your allocation to equities is below 50%, now is the time to enhance upto a max of 60%. If you are already there, it could be profitable to wait for the dust to settle before diving in.

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