Four MOST DAMAGING Myths about Investing In India


In the book Diamonds in the Dust, the award winning team, Marcellus Investment Managers have pointed out four most damaging myths about investing in India. These myths are very damaging and worth knowing for everyone, whether they invest or do not invest in any asset class.

FOUR MYTHS ABOUT INVESTING IN INDIA
The challenge for affluent Indians who are trying to get their financial planning on track arises from two different sources. Firstly, manufacturers of financial savings products and the intermediaries of such products are marketing proactively, and sometimes aggressively, to get a slice of the Indian HNI savings pot. Often, these marketing/advertising campaigns have little to do with the facts on the ground. The second challenge facing well-intentioned Indian HNIs is themselves—most affluent investors live in an environment where myths around the pros and cons of various investments proliferate. These myths are often the biggest driver of the investment decisions affluent Indians make. We now highlight the four myths that we encounter most often in our discussions with HNIs.

MYTH 1: GOLD WILL HELP ME PROTECT MY WEALTH
An RBI report found that next to real estate, gold, at 11%, accounts for the largest share of the wealth of Indian households. An 11 per cent allocation to any asset is a reasonably large chunk by any standard. How has such a material asset allocation worked for Indian households? Over the last ten/twenty/thirty years, the price of gold (in rupee terms) has compounded at an annualized return of 9.2 per cent/12.7 per cent/9.3 per cent, respectively. Over the same time periods, an investment in the equity markets, represented by an investment in the BSE Sensex index, retuned 10.4 per cent/15.0 per cent/14.8 per cent, respectively, higher than gold in each time period. If we consider returns from gold in each of the three decades separately over the last thirty years, we see that gold has underperformed the Sensex by a wide margin. 

MYTH 2: REAL ESTATE WILL HELP ME GROW MY WEALTH
Over the last five years, if one were to look at the return rate from real estate in metropolitan cities in India such as Mumbai, Delhi and Bengaluru, one would see that returns have been around 3–4 per cent per annum; i.e., house prices have at best kept pace with consumer inflation. Real estate in major markets like the National Capital Region has not even accomplished that. However, there is a school of thought in India which says that because residential real estate returns have been weak over the last five years they will be better going forward. This point of view cannot be sustained when one compares Indian house prices with the prices prevalent in other markets. The first problem is affordability. Secondly, Indian residential rental yields are around 2–3 per cent in most Indian cities, whereas the cost of a home loan for prime residential real estate customers is around 7 per cent. The disparity between these numbers suggests that Indian residential real estate still has room to correct from its highs before it becomes an attractive asset class.

MYTH 3: DEBT MUTUAL FUNDS OFFER DECENT RETURNS WITH LOW VOLATILITY
The yield of a debt fund depends on the credit quality of its portfolio. All corporate debt is ‘rated’ basis the probability of the corporate defaulting on its debt obligations. The debt issuers with the strongest balance sheets get a rating of ‘AAA’, implying that their probability of default is similar that of the government. In contrast, the companies with poor debt management may get a rating of ‘B’. There tends to be an inverse correlation between the rating enjoyed by the debt issuer and the YTM on the issuer’s bonds, i.e., companies with the strongest ratings enjoy the lowest YTMs(Yield to Maturity). That, in turn, means that a fund manager who stuffs his debt fund full of highly rated bonds will have a fund with a low YTM, and hence the debt fund will give low returns. However, that will make the fund unpopular with the army of salespeople who sell such products. So, fund managers who want to earn big bonuses tend to stuff their debt funds full of bonds with low credit ratings. Such funds deliver high returns for a few years, but when defaults occur (low-rated bonds have high default risk) the whole thing blows up and millions of investors find that their savings in debt funds are worth much less than they thought they would be. 

MYTH 4: GDP GROWTH DRIVES THE STOCK MARKET. SO, IF I (OR MY WEALTH MANAGER) CAN TIME THE ECONOMIC CYCLE, I CAN TIME THE STOCK MARKET
In a blog post published by Marcellus in November 2019, they have shown that the relationship between Nifty50 EPS growth and GDP growth seems to have completely broken down in the last five years. More generally, across the world there tends to be low or no correlation between stock markets and GDP growth, implying that timing the stock market is not possible on a systematic basis. Ben Inker of the fund management house GMO, in an article in 2012, concluded that ‘Stock market returns do not require a particular level of GDP growth, nor does a particular level of GDP growth imply anything about stock market returns.’ The valuation guru Aswath Damodaran says that the causal relationship, instead of running from GDP growth to the stock market, instead runs the other way round, i.e., stock markets are predictors of GDP growth (rather than being ‘reflectors of GDP growth’). He highlights a 30 per cent correlation between stock market returns in the US in the period 1961–2019 and GDP growth four quarters hence.

It is in the best interest of the investor that he/she should know the myths about investing in India, ignore them and always ask why or how in any financial advice given to them. Do not blindly follow any financial advice just because your friend or a person you trust has suggested so. This can be very devastating and you may not be able to achieve your financial goal before or at the time you anticipated.  

I hope you all liked the blog, do share it to your loved ones to help them achieve their financial freedom absolutely for free !

~ Pranit Bhandari

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