Good Returns? Of course, more is always better. This is the common answer by investors. No one wants to settle for less.
Nowadays everyone wants to maximize the returns. Optimizing the portfolio, beating the Inflation, generating tax efficient returns in a portfolio has become the things of passe’. Expectations have changed a lot.
When I answer the readers’ queries on Money Control, every other investor is asking for “Good Returns”.
Shall we blame it on the recent market performance or so called “Financial Literacy” or “Investor awareness campaigns”, which are being run by many Investment houses?
I have observed that many of these campaigns are being launched to promote specific products or website, showing the recent past performance, and thus taking advantage of people’s Greed and lack of experience, and instigating fear of missing the bus. But, at the end, everyone is aware that Past performance is not guaranteed in future.
Good Returns or Bad Returns, High or Low returns are something that is derived from Comparison between different products, different time periods, different Investors portfolios or how the numbers are tortured to speak the language of the product seller.
For example, ULIP returns are shown as portfolio returns, but the investor returns differs a lot, due to GST on Premium payments as well as the Mortality and other expenses which vary in different age groups.
Mutual funds are pitched or even looked at for the last few years’ performance, sometimes even last 1 years’ returns are enough for the Investors to make investment decisions, without understanding the inherent risks in it. Isn’t it amusing that all Investors invest for “Long term”, but decides only looking at short term returns.
Let me show you some interesting graphs, showing the performance of Stock market Indices in different time periods.
The Interesting point to note in the above graphs is that the Small cap segment which has been a favorite sector among investors, has no doubt given 19.26% CAGR in last 5 years, but in 10 years time frame the same segment generated 7.31% CAGR.
Since Inception Nifty has generated 14.21% of CAGR as on date, but in the last 10 years 8.42% of CAGR.
Since risks are invisible so investors don’t fear them, they only react when risks convert it to portfolio losses. Look at the circled portion in the above charts and tables. These were the times when the point to point return of the index was Nil to negative. (Also Read: Why you should have debt investments in your portfolio?)
We the irrational human beings are loss averse, not risk averse, which makes us, continue with the high risk and expectedly high return Mutual funds/Stocks Portfolio (Market Risk), Endowment insurance policies which would not even beat the long term inflation rate (Inflation Risk), lower rated but high yielding debt instruments (Credit Risk), High allocation to Real estate (Liquidity Risk).
And all this is because of your own definition of “Good returns”, which keeps on changing based on recent market performance and looking at others portfolios.
I think a lot about risk. It’s in my nature and may be that is why I am into this Financial Planning profession. Every step in financial planning structure focus on achieving the goals with mitigating the risk which though everyone is aware but gets ignored especially in good times.
Starting from the emergency fund, then Insurances, Asset Allocation as per one’s risk profile, timely rebalancing of portfolio, Distribution strategies, Estate Planning etc. all are focused on risk management along with strategies to beat inflation and generate the decent returns (may not be “Good Returns” ) to achieve the financial goals.
“The Essence of Investment Management is the management of Risks, not the Management of Returns – Benjamin Graham”
But since investors’ main focus is on the returns only, and also for the sellers it is easier to sell based on past returns, these financial planning steps takes the back stage, especially in illusionary good times.
What are Good Returns?
Good Returns according to me are neither what you see as a past performance of the product which itself is not guaranteed, nor what is promised to you by the product manufacturer or product seller.
Good Returns are the reasonable returns expected after looking at the cost of the product, Average Inflation rates and Taxation of the Investor. If the Post expenses, and Post tax returns of the product is higher than the Average rate of the Inflation, you are getting good returns.
This could be 7% for those who do not come under any Tax bracket or 10% who falls under the high tax bracket or any number which varies on a case to case basis. Anything above is a Bonus, which should not be looked at while making any investment decisions.
Keep in mind that this return is a return on the portfolio, not from only Market Linked products. All of your investments contribute to your financial wellness and participate in helping you achieve your goals.
So if you are invested in EPF, PPF, Insurance Policies, Gold, Real estate, Equity & debt Mutual funds, the returns on the complete portfolio should be looked upon to call it a Good Return or bad, as it is the portfolio that will contribute in achieving the goals not just Mutual funds or Equity.
Means if you have multiple endowment policies giving 4%-5% of Returns, have some properties which are generating rental yield of 2%-3%, or may be lying idle, have Employee provident fund generating 8% return, and hardly any Equity linked instruments, then your total return on investments will always be lesser than long term average of Inflation which is coming to 7%+ in last 25 years.
But that does not mean you should come out of all low yielding investments immediately and invest the money in growing assets, as future will always remain uncertain and even the best Investment plan can result into losses.
How to generate Good returns on your investments?
Understand how Asset classes work
You need not to go deeper into the working of the same, just basic understanding and accepting the returns along with the risks should be enough.
There are 4 investment asset classes to invest in India – Equity, Debt/Fixed Income, Gold and Real estate. (Read: 10 Reasons, why real estate investments are riskier than equity?)
All the asset classes have its own features and all carries some importance in a portfolio. Allocate assets as per your goals and risk tolerance, and stick with it. Diversify the money into different products with in the asset class. (Read: What is Equity?)
Have a goal based financial plan and structure at place
A structured financial Plan helps you have a holistic view on your finances and requirements. It will act as a GPS system for you and you will know when to stop, when to rebalance, what is more important to you. A good financial plan takes into account your cash flows, your goals, your risk profile, your existing investment structure, your taxes and even the distribution planning.
It puts you into a process and keeps your behavior in check.
Take help of professionals
If Virat Kohli is the best captain and batsman, then why does he require a coach?? Because, even the best requires guidance and monitoring.
Yes, advisors do have a cost but benefits are way higher than the costs.
Self-medication may prove cheaper in the short term, but that is also dangerous and may deteriorate your health further. Remember, you will get insurance only when you are healthy, and if you buy insurance after you diagnosed with some illness, you may get limited benefits.
Same way if you approach a planner after spoiling your financial health, the recovery may get late and also in bad financial health you will be exposing yourself to misselling as you may be seeking for “Good returns” at this time. (Read: what is the role of a Financial planner?)
Investments are not only about good returns. And neither good returns are about high-risk Investments. You have to follow a process and good returns are the by product. It’s just you need to keep your expectations in check.
Good returns cannot be the past returns. It is about the future, your future. So understand yourself first and then look around to search for suitable Investments.
Numbers can deceive. Your requirements should guide the process.