To Earn From Equities – Innovation Is Needed – 9/7/2016

To Earn From Equities – Innovation Is Needed – 9/7/2016

Savvy investors always think about ‘what if’ scenarios.  Thinking about Plan B or Plan C and making appropriate risk adjustments in the strategy is what separates wheat from chaff.  Being attached to the reality and understanding the truth that nothing lasts forever under the sun is much needed to accumulate long term equity gains.

There are many reasons why markets are ignoring the reality of slow growth and keep on chugging higher.  You can blame it on endless cheap money supply a.k.a QE but there is something else is also at work and that is the huge change in investor psyche.

How investors mindset has changed in last 7 years and that is leading the market to ridiculous levels of valuation?

In the age of split second information flow, ideas spread fast.   Everybody seems less concerned about equity market fall.  Why? because virtues of long term investment in stock market is being touted everywhere and they are being advised not to fret about 10/20/30 % fall in equities. Rather such dips are being considered as BIG opportunities.  To support this argument, they have recent historical evidence.  So panic selling which used to create domino effect to roil markets is absent these days.  Investors are more comfortable seeing red numbers in their portfolio dashboard because the excitement of 10 fold gain in coming years, help overcome the current anxiety about near term losses.  This huge mental change will keep supporting the market until something changes drastically.

Why everybody is doing the same thing?

When Mr. John Bogle floated the idea of passive investment in indices, it was a novelty.  But now after couple of decades in existence and raft of index linked funds, it is common.  And when something becomes too common and ubiquitous in trading, history says it is about to become dangerous.  Much touted SIP ( Systematic Investment Plans ) are very beneficial in long term and it surely helps majority of investors who don’t have enough time and technical ability to handle their own investments.  But when every neighbour and his dog does the same then how the market will react going forward is something needs to be thought about.

It is a simple fact that If everybody is buying the same product then its price won’t go down.  Short sellers who used to keep small bubbles in check have been massacred en masse.  It’s like getting rid of all the carnivorous species from the forest and then complaining about rapid rise in the population of herbivorous.  Recent experiments by central bankers ( mostly theoretical experts and practically dumb Ph.D in Economics fellows  —  otherwise who invents negative interest rates ! — much on that in later posts 😉 ) has created the artificial markets distant from reality.  In doing so, they are doing much harm to the common investor or public in general rather than helping.  If they don’t know it now, they will know it later when someone else does Ph.D on such effects later 😉

Who will be rewarded in future ?

Investors in SIP or Passive Index Funds etc got rewarded greatly because they stuck to something unproven before.  They weathered the storms during the market crash and followed the game plan.  They were the minority with nerves or smart enough to believe in long term capital market gains. But now things may change.  So now what if instead of getting blockbuster 10/20/30 fold return on your investment, you are just going to get paltry 1 or 2 % return with huge downside risk if things starts crumbling and crashed indices never some back to this level again until next 15 years !

Is the idea of allocating money to passive investment for big gains in later life dead? Well, maybe not.  But it looks like the returns will be much more suppressed than what smart active investors can achieve. Innovation in portfolio management is needed.  Now instead of just buying and holding stocks, you may need to do covered calls or some sort of other active trading.  Instead of constantly allocating and investing money every month, you may need to wait for some trading opportunity in good investment to buy it in bulk during downturn at discount.

In short, following the herd will never take someone ahead.  Today’s radical idea will be tomorrows banal thought. So the one who will upgrade will definitely be ahead.  As usual, patience will be rewarded in the markets 🙂