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Portfolio Yoga - Part 10

Questions, Questions, Questions – the February 2021 Newsletter

The best fund manager in the world in terms of performance and longevity writes once a year. But he has made his mark and doesn’t need anything more to showcase. Most fund managers write monthly given the constraints of managing a capital that can go out as easily as they came in. As an advisor, I feel its important to keep in touch with clients regularly for while money can be made or lost depending on the trend of the market, its important that the client understands the thoughts and views of the advisor which hopefully allow for a longer relationship.

A friend was boasting about how his LIC policies will in the next few years give him a cash flow of a Crore. A Crore today is a big number and was an even bigger number when he signed up nearly 22 years back. 

What is the return you got I asked out of both curiosity and belief that the returns won’t seem as rosy in percentage terms as it looked in absolute terms. He had no clue, so thanks to Microsoft Excel, I put in the data. 

The XIRR Return came to 10.66%. My friend was disappointed to say the least. After all, he being a businessman has multiple times taken on debt at much higher interest rates than what his investment will pay off (and one he wishes to utilize to pay off one of the loans). But the fact remains that most investors don’t bother even trying to calculate the returns they are getting once the investment has been made. It’s as if what happens will happen, so why bother kind.

When it comes to investing, we spend a lot of time and effort before investing and then become lax in monitoring it till another shiny toy comes along. Most of us I am pretty sure cannot really be sure about our investment returns (XIRR / CAGR) given not just the multitudes of investments that make tracking tough but also the lethargy of having it all accounted for.

A few years back, I was having a conversation with the CEO of a large fund house and queried him on how much of the amounts that were coming in would stay if the markets were to reverse course. He said that based on their own data, they expected more than 50% to stick regardless of markets and performance.

It’s this laziness on our part that kind of drives the industry in ways more than one. Reams have been written about Behavioral Gap (the difference in returns between what the fund achieves and what the investor achieved) but very little about how to solve the issue. Education is one way but there are even larger scams going on in the name of education than the world of finance. 

Another friend of mine recently bought a very expensive apartment. I asked him how he came to know the price he paid was the right price. He had no answer other than that its what the price of other apartments in his complex had traded at and hence this price maybe was the right price or maybe not. But hey, if you were to think about it, this is how real estate has always worked. Price is based not on utility or earnings it can provide (not in India definitely) but a perception that for this location, this price is right.

So, we exhaust all our savings and then top it up with loans we will be hard pressed to pay off if things don’t go our way for the next decade at least to buy something we cannot even price it properly.

From the markets to life in general, we accept for most part what the majority seems to believe in. So, investing using a strategy such as Momentum is seen as speculation while investing using a strategy such as Value or Growth is seen as well, Investing for the Long Term. 

No portfolio can be static. If an index doesn’t rejig its constituents on a continuous basis, it will end up having mostly dead or barely there companies along with one or two shining stars. The only difference with a strategy such a Momentum vs others is that we do it on a more regular basis. Do we miss the long term compounders – of course this is given since no stock can go up without some degree of volatility and for strategies such as Momentum, Volatility in price is generally a recipe for exit. On the other hand, we are able to ride a lot of stocks that may not be a long term compounder but compound at a sharper pace for a shorter duration. 

Ultimately our objective is not about making money in a single stock but ensuring that our portfolio performs better than what a passive index can. If we can achieve that, should we really bother that we aren’t holding a stock that is a great compounder – known only after it has compounded for a while?

When it comes to investing, I sense that we are too feeble to question things. Unlike say Medicine, Finance for most is self learnt and yet we fear if our questions may sound stupid or our views wrong. This is what allows much of mis-selling. 

Investors or Advisers, everyone gets wrong once in a while. Warren Buffett in his recent letter too talks about the most recent mistake of his. I keep wondering whether having a negative list of stocks I won’t touch is a mistake given that one shouldn’t fiddle with a systematic approach – but my own excuse is that any gains that come at the cost of good sleep is not worth it. 

One of the better books I have read is Anthony Bolton’s “Investing against the Tide”. Its a wonderful read and this list of observations about investor behavior is fantastic advice (if you take it as one)

We need to keep an open mind. Once we buy shares we become less open to the idea that our decision to buy was wrong. We close our mind to evidence that doesn’t confirm our initial thesis. 

We need to think independently of others. You are neither right nor wrong because the crowd disagrees with you. 

Many supposed experts are not. Many experts never change their view. They remain with a permanently positive or negative view of the world or companies knowing they will be right part of the time. A number of stock market newsletters, surprisingly, get a high number of readers despite taking this approach. We all think we are better at investment than we are. 

We are all overconfident and, in particular, you mustn’t let a good run go to your head.

We are often most influenced by the recent past and by recent prices. Often the first plausible answer is the one that influences us. 

We are too conservative when we take gains and too relaxed in running losses. 

We should ask ourselves if we own it, would we buy it again at this price? 

Investors underestimate the likelihood of rare events happening when they haven’t happened recently, while they overestimate them when they have. A classic example of this is the effect hurricanes have on the insurance business. After a bad season investors often think the next season will be bad again. This point about investors being particularly influenced by their recent experiences is a very important one. 

Successful investment is a blend of standing your own ground and listening to the market. You won’t be successful if you are too much in one camp and ignoring the other.

My idea of writing this is not to advise you but to provide some pointers on things that we know and yet have never questioned. Hope it provides some food for thought.

Question everything. Learn something. Answer nothing.

Euripides

NFO Review- UTI Momentum Index Fund

I don’t like writing reviews for New Fund Offers. Everyone claims to be doing something unique while all they are doing is the same old thing but offered in a new way. Once in a way, a fund comes that is truly different and worth looking deeper. 

For those of us who are Momentum affindos, it’s been a long wait for a fund that will replicate a decent momentum strategy. In May 2018, SBI had filed with SEBI a red herring prospectus for launching of an ETF on Nifty Alpha 50 Index. Unfortunately it never saw the light of the day.

Nearly two years later, UTI has now decided that it will try and break into the market with the first Index fund based on Momentum. The difference though is that this is a fund that will be based upon the Nifty 200 Momentum 30 Index which has a comparatively lower amount of real time data versus Nifty Alpha 50.

Since 2005, Nifty 200 Momentum 30 seems to have a slightly higher edge compared to Nifty Alpha 50 and even if we were to assume some of it due to curve fitting, Nifty Alpha 50 has shown a decent performance.

Much of the literature on Momentum emphasizes on rebalancing at regular intervals. Most Do it yourself models for example use a Weekly rebalance (We use a Monthly rebalance) while international funds for most part use a quarterly rebalance.

Rebalance is a simple way to remove stocks which aren’t performing while adding stocks that are showing a better performance. In many ways, this is similar to Index changes we see where stocks are changed based on Market Capitalization changes. 

But since Indexes are more broad based, they tend to generally under-perform Momentum strategies which are more nimble and more concentrated. Take a look at the chart below showcasing the difference in returns between Nifty 200 and Nifty 200 Momentum 30.

In recent times, there has been a talk of how much of the performance of Nifty 50 can be attributed to just 10 stocks. A tweet from the CEO of Edelweiss

Momentum funds generally try to place the bets more with the top 10 than spreading it across and hence the slight out-performance relatively speaking. Over time, this slight out-performance can add substantially to the returns thanks to the 8th wonder of the world 🙂 

Is this a replacement for Do It Yourself Momentum?

The biggest advantage of investing in a strategy such as Momentum via a Mutual Fund is two fold. One, you don’t have to bother with the changes that need to be executed at regular intervals and second, the fact that Mutual Fund churn doesn’t have any tax impact. But the trade-off is lower returns.

For example, here is the comparison between the NAV of my investments and Nifty 200 Momentum 30

The difference is not because of any superiority of my strategy vs the one that will be followed by the fund but because of the Universe. As I wrote here, the key issue for those managing money based on Momentum comes down to Liquidity. This could be one reason the Index and the fund follow a 6 monthly schedule. 

With just two rebalances per year, the cost of slippage and fees will be reduced tremendously and in a way enables the fund to have a low tracking error. Since mutual fund churns aren’t taxed, all gains are captured (vs doing it either directly or through a PMS / AIF).

Rolling Returns Comparison

If you are a passive Investor, you are generally sold the idea of buying Nifty 50 (and if the seller wants to show some additional diversification he shall include Nifty Next 50) ETF’s / Index funds. Thematic / Sector funds are a no go for they require Timing the Markets (Blasphemy). 

When DSP came out with its Quant fund, I myself was a bit skeptical despite having been given all the data I wanted. The skepticism was also due to the slightly black box nature of the fund. No such issues are there when we are looking at UTI Momentum Fund. Not only is the selection criteria open, you can easily replicate the same yourself. 

Fund Managers like to talk about Concentration vs Diversification and based on their beliefs suggesting either one of them. What they forget though is that for their clients, this is not the only fund he or she will own. If you own 4 focussed funds, is your portfolio focussed? 

Having a lot of funds in itself is not bad. You will get market returns while also ensuring employment to a large number of folks. Why spend only 0.1% on an Index fund when you can get the same performance by spending 2.25% and spreading it over multiple mutual funds and PMS (if you are rich enough).

But if you are a real concentrated passive investor, nothing more than a simple Nifty 50 should do the trick for you. If you are such an investor, does it matter to invest into a fund like this is the question you should ask and based on the data I shall present below, my answer to that is Yes.

This doesn’t mean that you need to switch over 100% from Nifty 50, but over time I feel this can be a core fund that is comparatively similar in terms of risk to Nifty 50 while generating a small out-performance for the trouble.

3 Year Rolling Return Comparison

Data for Nifty 200 Momentum 30 starts from 2005 and hence we have 3 year rolling returns data since 2008. The Index beats Nifty 50 returns 86% of the time

5 Year Rolling Return Comparison

When we extend it to 5 years, the outperformance moves to 84% of the time. 

7 Year Rolling Return Comparison

100% of the time in the past, the Index has delivered better returns than Nifty 50.

10 Year Rolling Return Comparison

No change here either as the Index seems to comfortably beat Nifty 50

A caveat you may keep in mind is that the Index has been constructed using historical data and has not much of any real time data. But with the number of touch points being low, as long as NSE has used survivor free database to create the Index, I have strong confidence that the probability of the returns doing way worse once it starts being tracked and invested in real time is very low.

To conclude, if you are not a DIY Momentum Investor, this fund is worth looking into. Removes the hassles of DIY though the trade off is lower returns. But on the upside, allocation can be higher thus reducing the disadvantage a bit. 

Pitfalls of Momentum – January 2021 Newsletter

When I was younger and more naive than what I am today, I used to argue strongly for Technical Analysis vs Fundamental Analysis. In a way, I thought of myself as a crusader for an art that few seemed to understand much let alone use it.

Today, anyone and everyone has access to a freechart with drawing tools making them experts in patterns and indicators. With a 50% probability of being right (it being binary) and hundreds of charts, it’s easy to look like an expert.

One question that troubled me the whole time though was why if Technical Analysis was so good was not used by any major fund managers. What was inhibiting them from using Technical Analysis when it seemed like it was a great way to not just hedge the risks but pick the winning stocks. 

Today, the same questions can be asked about Momentum Investing. For all our claims, there is just one PMS which has a pure price based momentum portfolio. Why is that so? If as some advisors claim, Momentum Investing is the greatest innovation in finance, why aren’t they managing money?

While we do have CTA’s that do use some sort of Technical Analysis, the returns in the last decade and more have been unsatisfactory to say the least. In case of Momentum, we do have Hedge Funds and ETF’s trading the same in the United States but the AUM is measly in comparison to the mainstream ETF’s 

Here is a performance comparison of iShares MSCI USA Momentum Factor ETF vs S&P 500

India is yet to see anything close to that. One reason I believe is a major inhibitor – liquidity. Momentum or Price chasing works on the concept of buying what is going up and selling what is going down. 

But if you are managing a 1000 Crore fund with a 20 stock portfolio (5% equally weighted) and don’t want to move the market, how many stocks shall qualify (assuming that you can buy / sell upto 10% of the volume traded in a day?

Using a 12 day average volume (not delivery which is even lower), we can get only 32 to 35 stocks where you can buy or sell 50 Crores worth of securities without exceeding 10% of total volumes. If you are willing to go upto 20%, the number of stocks available move to around the 75 mark, better but way lower.

Most fundamental portfolios have a long holding period (even though they may churn a small bit of the portfolio much more frequently). Even with a monthly reshuffle, my own holding period falls to just around 4 months. Dip to Weekly and you shall end up churning the portfolio every second month. 

In advisory, since it’s up to the client to execute, all these headaches vanish instantly. Momentum Investing in many ways is similar to Micro Cap Investing. There is a reason for no Micro Cap funds out there too – again it’s a question of Liquidity.

Today, there are close to 22 advisors on smallcase alone who have a Momentum Portfolio. Since many have more than one portfolio, we are talking of nearly 75 to 100 portfolios. I have no subscription to any of them but my guess is that the stock overlap would be close to 80% across the board.

Having started my stock market journey on a regional stock exchange and one thing we feared the most – market orders. With low liquidity, we had no way to know how far away we would get filled. I don’t remember punching in a market order once, it was always limit orders at the best Ask or Bid price. New age rodeo’s on the other hand fancy market orders. While market depth has definitely improved quite a bit, the hard reality is that when thousands of orders are punched at market, there is a risk of the cart moving the horse than vice versa.

“Not everything that counts can be counted, and not everything that can be counted counts.” goes a popular saying wrongly credited to Albert Einstein. While we can count the impact of Brokerage and Taxes, what is missed out is the Slippage. 

While slippage is low when we send an order for a few thousands of rupees, the impact of slippage when the amount becomes bigger becomes very noticeable. Big funds hence spend a lot of time and energy to try and reduce such impact to a level that is more comfortable. 

Compared to other factor based strategies, Slippage is something that can have a large impact in Momentum based strategies versus Value or Quality where the churn factor is very low. A value fund can take months building up a position while a Momentum fund would have already entered and exited a stock in a month or less.

Momentum strategy like any other strategy is bound to go through its bad times. My own equity curve hit a high in January 2018 and that high was surpassed only in late 2020. The worst thing though was that this happened even as the markets continued to hit new highs.

This is tough compared to say a Mutual Fund or a PMS since you are required to continue to monitor / action every month or week. If you are not mentally prepared for such eventuality, you will find yourself exiting the strategy at the worst possible time. 

Momentum in recent months has seen a huge upswing, but then again, what hasn’t really. This seems to have made it seem like a riskless way to make money. This has been further encouraged by advisors who are experienced enough to know that risk in do-it-yourself is multiple times higher than with even an average mutual fund. 

As I was writing this, the wonderful Bob Seawright’s newsletter landed up and one quote that stood up 

“There’s plenty of people who sell bad stuff knowingly, but I think the far bigger problem is inappropriate sales that are well-intended. I’ve seen people who sell bad stuff to their moms, because they thought it was the right thing.”

Bob Seawright

Momentum or Value or Growth – everything can be mis sold. It’s finally your money on the line and if you don’t care enough, no one else will either. If you are not prepared to be invested for a long period of time, no strategy or investment will ever suit you. 

Market Manipulation or Just being Crazy? The WallstreetBets Edition

Unless you have been sleeping under the rock for the last few days, you would have come across multiple posts on GameCorp, a company that may have been way less known in its home country at the beginning of the year but one that is now known and analyzed throughout the world. 

Market Manipulation is as old as the woods. While I am sure the markets were manipulated by select coterie even before the 1700’s, this small video makes for a nice intro into market manipulation and price rigging that was seen 300 years earlier.

Warren Buffett made his money the slow way. Compounding after all doesn’t really break the bank in a year or less. For many though, this is way too slow to their liking and would rather be pleased if they can multiply their money at a much faster pace.

One of the easiest ways to move the price higher is to corner the commodity or stock and make it harder to get. The less floating stock available, the faster it shoots up and the faster it shoots up, more the interest by others wanting to jump into the action.

The biggest issue that most speculators face when they attempt to corner a stock is that they aren’t rich enough to buy out all the stock and hence resort to leverage and all that results is a house of cards. One whiff of wind is enough to bring the biggest of them down to the ground.

One of the most audacious attempts to corner was attempted by Jay Gould who attempted to jack up the price of Gold by cornering as much as possible both directly and indirectly via ensuring no flow from the Federal Reserve (Link). While he was successful, a similar attempt by the Hunt brothers to corner Silver failed. Some other notable attempts (link) 

Who doesn’t want to jack up prices. Industries try to do this constantly by engaging with their competitors and try to push up the prices even if demand has not shot up. Engaging in such actions is seen as fraud and when caught companies can be penalized. A example that comes to mind – CCI fines cement companies $944 million for price fixing

Cornering stock in India ain’t easy. As soon as your holding crosses the 5% mark, you are supposed to intimate the company and continue to intimate them of any changes. If you cross 26%, you need to make an open offer to other shareholders.

This is when a single person is buying up the shares. But what if a host of unconnected persons buy shares to move up the price as has happened in GME? Actions such as those have no history – manipulations of price have always been by people who are known to each other in some way and have built a trust that enables them to field their money to the venture.

While it’s exciting to watch the action from the sidelines, anyone who has seen the past knows for sure that these things won’t end well. Hedge funds do make mistakes but their size and ability to cut the losses (as we gave seen with GME) is vastly different from the action of retail investors who get anchored to the high prices and generally are less willing to take action when the trend goes against them.

This boom is actually positive for companies who have a viable business but are indebted by debt. Like in case of Hertz (though it failed since it was already in receivership), it’s easy for the company to actually come out and issue new shares at these crazy valuations and no matter how many fearless investors there are, a hoze of new issues will quickly temper the spike and later turn into a orgy as everyone tries to exit at once.

While such actions aren’t possible in India due to very few stocks having any decent short positions in the first place, it has been seen hundreds of times in stocks that have had a very low float and have been ramped up.

While Ruchi Soya comes to mind, check out MMTC in the past. Small float is easy to corner and if you have the management on your side, you can ride your way to glory. Of course, the problem though is that after riding the tiger, everyone wants to get out of one without being eaten and is generally tough unless enough PR has been built via various media channels to make retail get excited.

Take a look at the MMTC chart below {Chart adjusted for Bonus and Split}

The interesting data point of the whole rally from 300 to 56,930 was achieved with volumes of just around 31K thousand shares being delivered. 

While the stock fell off sharply from the peak, the real distribution started when the company issued a Bonus and the stock face value was split from 10 to 1 in 2010. Volumes exploded and after more than a decade, investors are yet to see the prices anywhere close to where they were in 2010 / 2011. 

It’s easy to get caught in hype around a company with the stock booming higher. Who doesn’t want to participate. But like Vakrangee taught me, getting in is easy, its getting out that is the key and where most of us make the mistake of believing something we knew not to be true to be true.

Compared to the antics of the Wallstreetbets, manipulation in India is much more rampant with stocks gaining 1000% or more in a year with very little activity. Bafna Pharma went up recently from Rs.5 to Rs.170 without a single day of normal trading activity. Tanla merits a mention too though the path was more staggered here.

I participated in the Dot com bubble and what I see in US markets is reminiscent of those times. The story backing it up was different in that time, but the stock moves were very similar if not more exaggerated (then vs now). For Nasdaq to reclaim the peak took 15 years though far fewer companies survived the same. 

The narrative that is currently being thrown around is Liquidity though we saw the Dot Com bubble without any similar kind of liquidity. It finally falls to behavior – especially Fear of Missing out that explains the actions of people who were seemingly sane one day and on another went out and bet all their life savings on things they had very little understanding about.

Finally do remember, we the Retail are the weak hands. This doesn’t change even if we are able to score a few goals here and there. In the long run, markets are efficient and strong hands always win. Investing is not a game even though it evidently feels like one.

Image Credit Power Grab: Activists, Shorts & The Masses — Investor Amnesia

The much awaited “Correction”?

Some weeks are good, some aren’t. But for the markets since November, every week was a good week if not a great week. Rare have been the times when we saw such exuberance in markets with everything flying off. 

Making money never felt so easy. All you had to do is be long in a stock, in any stock for that matter. Of course, this exuberance wasn’t limited to Indian Markets alone. US markets which we track closely seemed to be doing the same as the countdown to the end of President Trump started.

With Biden taking Oath, on twitter it would seem as if the United States has been freed from a dictator. Happy days are here again it seems or maybe not for there are very few men (or women) who have had no faults. 

Markets dislike consensus. If everyone loves a stock too much, the probability is high that the stock will either do nothing for a while or worse retrace a part or the whole of the journey it had in recent times. 

Too much good news is bad news. Between Biden taking the floor, the CoronaVirus vaccine being out and the Federal Reserve promise of unlimited bounties in the near future, there doesn’t seem to be much for things to go wrong. Complacency sets in and just when you think that the Sun will finally set in the east will the market surprise one like none other.

Fund Managers are bullish. I am bullish. In fact, other than a few friends many of whom I know are always skeptical, I cannot find many souls who aren’t bullish in this market. Then again, why would you want to be bearish when you can be bullish and reap in the rewards.

From its low of March, Sensex has doubled. But if you were to move your starting point back to the start of 2020, the gain would have been just around 20%. Nothing out of the ordinary. 

In the past, one was used to seeing a decent pullback when the market deviated too much from its mean in too short a period of time. The crisis of 2008 changed all that and we are now used to seeing shallower and shallower corrections. The correction of March 2020 was in fact the worst correction we have seen since 2008. 

Corrections are good and welcome. A friend of mine asked why I was hoping for a correction when I would not short the market. A correction will be painful for my Bank Account since I have no intention to exit the market at the first signs of a retracement but at the same time, markets that keep moving higher without a correction are like a forest which keeps accumulating dry wood. A single spark is enough to cause worse damage than limited fires over time would have. 

When it becomes too easy to make money, investors lose proportion of what is risky and what’s not. In the bond markets for instance today Greece and Spain which have never really recovered from the crisis of 2008 are able to borrow cheaply than even countries like India despite our cleaner record of repayment and a more stable currency and economy. 

My belief that I have been forming in the last few months is that we are at the start of a multi-leg bull market. But a bull market doesn’t mean a one way move without any corrections. During the 2003 to 2008 bull market which was one of India’s finest and best bull markets of all time, we faced 2 corrections of greater than 30% and 2 corrections of 15%. 

A correction in the Sensex to say around 40,000 may seem extreme today but 40,000 was what we broke above as recently as November. Like in games, markets need a time-out once in a while to enable everyone to catch their breath. As investors, we should welcome such moves. 

As I write this, India VIX is around 22.88 which means that traders aren’t really expecting a huge crash. But things can change on the dime. 

“Luck Is What Happens When Preparation Meets Opportunity” – Seneca

A Portfolio build on Price

In 2017, I was testing various ideas. Most did not have much value but some did and went into production mode. While I have been invested in Momentum since 2017, another portfolio that I invested family money into was a Buy and Forget Portfolio that did not have anything to do with the one key criteria for Buy and Hold – fundamentals.

Instead, the portfolio was created based purely on the stock price. To qualify for the portfolio, all that the stock had to do was be one of the most expensive ones among the listed stocks in the National Stock Exchange.

There is no rhyme or reason for such a portfolio to work. Stock prices don’t reflect anything other than how much one is willing to pay for a single equity share. A stock that trades at 100 may be expensive vs a stock that trades at 10,000.

Mining stock data for patterns is one of the easiest ways to find strategies that worked in the past. Unfortunately most of them have no rationale other than the fact that somehow in the past a lot of things lined up correctly and hence this strategy was seen as one among the best.

A strategy that is curve fitted will start wobbling the moment the rubber hits the road and more or less likely to fail within the next few months. Yet, mining is a great way to figure out what works and what doesn’t. 

So, how does one come to a conclusion as to whether a strategy really has value or not. This from my own understanding and experience comes down to testing it in the real world. While you can always test the strategy in different markets or use a different set of data to test (this test is called Walk Forward Testing), the best test is unfortunately the real market and even here judgments can be passed after a minimum period of 3 years.

<Full Post along with Portfolio available for Paid Clients Only>

We now have 3 Portfolios. Pricing is NOT per Portfolio. One Price – multiple Portfolios. 2021 should see at least one more if not two more offerings. Our objective is to provide portfolios that have low correlation between themselves (only exception is the Large Cap Momentum Portfolio which has a high correlation and overlap at times with the Multi Cap Momentum Portfolio).

Do check out our Philosophy, Process and Fees here

Historical Performance of the Portfolio – Rebalanced Yearly in January

How long will you Stay Invested

In November of this year, my personal portfolio made an all time high. The previous time I had seen an all time high was way back in early January of 2018. A couple of months, it would have been three years since I last made an all time high for the portfolio (not inclusive of dividends though). 

Equity returns are lumpy in nature. Unfortunately most of us don’t have the patience to hold through the worst of times in preparation for the oncoming best of times. Fear has a way of playing its tricks on our mind at the worst possible times.

Markets loathe giving free money to one and all. Before the 2008 financial crisis led crash, Indian Markets used to crash once in two years on an average. When I say crash, I mean a drop of at least 30% from the previous peak.

In 1996, Nifty 50 rose from 800 to 1200 by the middle of the year but by the end, it was down 800. In 1997, it once again rose to 1300 just to fall back to 950 by early January 1998. The bounce 1200 odd before jettisoning all the gains and falling back to 800 by late 1998. From there started the Dot Com bubble rally that took Nifty 50 to 1800 levels before the crash took it over time back to 920 in late 2001. 

Then we had the crash of 2004, 2006 and of course, the crash of 2008. Post 2008, Markets drifted lower for a considerable length of time only once – 2011 and even then did not go below the 30% mark. In fact, after 2008, March 2020 was the first time we saw a drawdown greater than 30%. 

The financial crisis and the way the Federal Reserve responded has changed the behavior of the market. Just when it seemed the normalcy of balance sheets of the Central Bank will be restored, we were hit with Covid which has resulted in an unprecedented flow of liquidity. 

While the recent rise in Indian Equities thanks to the generous inflow of funds from FII’s, do note that India is the only country into which liquidity is pouring. For most other emerging markets, its the other way round. To me, this is indicative that much of the flow may not be speculative in nature and at least a large part could be because of a change in perception with regards to the future growth of the economy.

Markets are expensive, goes the headline. Most measure the valuation of the market by using Nifty 50 Trailing Price to Earning as the proxy. But why Nifty 50 and why not Sensex or the Nifty 500 or the Price Earnings of the market as a whole. Is it because we all have fallen prey to availability bias?

In 2020, Sensex went up by 15.8%, Nifty 50 by 14.90%. Sensex Price to Earnings on the other hand went up by 28.80% while Nifty 50 PE went up by 35.90%. At the end of the year, Nifty PE stood at 38.45 vs Sensex PE of 33.50. Would you say Sensex is cheaper than Nifty?

No one knows the future but one can be pretty confident that the earnings of companies for the financial year 2021-2022 will be way better than 2020-2021. How much better would make it easy to get a fix on how expensive the market really is. Oh, by the way Nifty PE is Standalone earnings while the true picture will be shown by using Consolidated earnings. But since NSE doesn’t provide it, we don’t bother with it.

Then there is Authority Bias. We stop questioning things just because someone with authority says so and if he says so, how could it be wrong. So, when claims are made using a single example of who SIP is better than Lumpsium, we don’t stop to question the stupidity of comparing an Apple with a Pineapple. 

Questions are always asked of a bull market – be it at the beginning, the middle or the end. There will always be some indicator or parameter that can be used to defend a bull case or make a bear case. In Statistics, one school of thought says that if you have at least 30 independent samples, it can be used to make some decent predictions. We end up making predictions with a sample size of two or three and then wonder why we went wrong.

Equity is Risk when looked at a short term time frame. There is no getting away from it. If you invest money today, the risk to capital exists at the very least for one year if not more. But as time passes, the risk moves on from the capital invested to the gains and as one moves even further, it’s just part of the gains that will be at risk.

The longer you stay in the markets, lower the risks of ruin (unless of course you are leveraged in which case, the risk of ruin may never go). But to stay longer, you should invest only so much that allows you the comfort of good sleep regardless of market conditions. A secondary requirement of course is to invest in something you deeply understand or trust. The reason I could stay with the strategy during its long drawdown had more to do with my trust rather than any superior skill sets. Building that takes time but once built, it serves you for the lifetime.