We live in interesting times. Every day, something happens in the external environment that makes us wonder how much we truly understand the workings of the economic and financial machinery that runs the world.
Being a part of the professional services community, conflicts me from making most of the investments in the market given by auditing and consulting interests and that is also where I get most of my objective and independent approach to investing from, given that my need for independence to my clients precludes me from taking any exposure in the market.
Exposure to markets is more about investments and it would be worthwhile to focus on some basics before we get to investments as understanding the basics helps us to get the investment process right. Everything starts with a person's income and his expenditures. The difference between them is what is defined as savings. Savings, if not invested, would lose value as we know that in an inflationary environment, a rupee today is worth less than a rupee tomorrow.
Hence, it is imperative that savings are invested to earn, if not more, at-least the rate of inflation. I am sure that all the readers are aware of these basics, but it's not the awareness but the application of the same that matters. Knowledge learnt but not applied is as good as illiteracy. It is imperative to understand that no matter how ridiculous the external environment, investment of savings are important to preserve (if not enhance) the value of money.
Having created the case for investment, let me also specifically call out the second important principle – there is no standard formula, or one size fits all approach for making investments. It has to be customized to the risk and return objectives of the individual. Risk objectives refer to the individual’s ability to take risk and his willingness to take risk which together determine the risk appetite of the individual. The return objectives of the individuals must be understood within this defined risk appetite.
For example – An individual with a low-risk appetite would not find equity as the most preferred asset class and vice versa. As a rule of thumb, I have found the below 4 principles very useful for the purpose of making the appropriate investment choices
1) Understanding your risk appetite – It is important to understand your own risk appetite – high risk, medium risk, or low risk. This will give you the right lens to apply when choosing asset classes.
For example: GILT funds are usually less risky, but in a rising interest rate scenario, they may experience losses. Hence, if someone is an investor with a low-risk appetite, it would be better for the person to stay away from the same.
2) Follow goal-based investing to achieve the following priorities
a. Safety – This includes insurance – both life and non-life
b. Liquidity – This includes the likes of fixed deposits and debt mutual funds
c. Retirement – This includes effective portfolio management through an appropriate mix of equity and debt depending on what stage of life the individual is at.
d. Wealth Creation – This includes investments in speculative asset classes once the earlier priorities have been achieved. This can range from high-risk equity investments both in public and private markets.
3) Understanding the business cycle, one is in – While timing the business cycle is extremely difficult for an average investor, understanding the business cycle one is in, is far easier. The media coverage today will help the investor understand the business cycle one is in. This will help determine the nature and timing of investment one needs to make.
For example: if one is at the peak of the growth cycle, inflation starts to pick up and thereby the interest rates will be expected to harden and there is a slow down that may be anticipated. This means that the investor would be better off investing in defensive sectors such as utilities, health care and consumer staples.
4) Investing is more about patience than about the churn for an average investor – An average investor needs to focus on making investments that help achieve his goals and not get distracted by what is the latest fad in the market. While an investment in a crypto asset class may sound exciting, if the goal is to save for your children’s education through the right mix of debt and equity, then it is worthwhile to stick to that goal.
While the above are only guiding principles, I have found them to be useful towards helping achieve a fulfilling life and I sincerely hope that the readers also experience the same.
Vivek Ramji Iyer, Partner and National Leader Financial Services - Risk Advisory at Grant Thornton Bharat LLP