The New Year 2012 is very soon approaching and we will be busy making different wows in order to improve our health, social and family life. Now, let us also make 10 commandments to improve our financial health through the year 2012 for our entire future lives. And at the end of it there is a brief view and outlook on different asset classes for the year 2012.
Commandment 1: Thou shall make a proper Asset Allocation Plan
Asset Allocation is the primary premise for investments. Long term statistical analysis has shown than 90% of our returns are due to proper asset allocation, 9% through stock selection ad 1% through market timing. While allocating assets, remember to allocate only that much funds to equities which you don’t require for atleast the next 5-years and which you can emotionally see it going down by upto 50% in the short term and not panic on it.
Commandment 2: Thou shall do proper budgeting
Thou shall not invest what is left after spending but spend what is left after investing. Investing without a purpose is bad, but investing when you have high-interest debt is much worst.
Commandment 3: Thou shall take proper family protection
Thou will not confuse insurance with investments. Thou shall take proper insurance cover of atleast 10 times your annual after tax expenses (revenue and average of past 3-year capital expenditure). Thou shall also take proper medical insurance.
Commandment 4: Thou shall take proper Asset protection
Before starting to build fresh wealth, it is our duty to protect our existing assets. Assets like house, flat, or car can be insured against accident and natural perils. The event of earthquake or terrorist attack to our flat/ house seems to be remote but the impact of such things could change our financial stability upside down. So protect your house and other major assets with proper insurance.
Commandment 5: Thou shall buy your own house for self occupation
Thou shall look into buying your own house in the year 2012 with some bargain and discount from the developer while trying to time it in the middle of the interest rate reduction cycle (because you may not be able to get your house at a discounted price at the lowest interest rate).
Commandment 6: Thou shall not over invest in speculative items
This would include speculative or penny stocks, junk bonds, non cash flow generating commodities like gold or silver and non-revenue generating posh real estate like beach houses. Investments in these can be done only when you have a clear view on the above asset class and expecting to gain from the price movement in it. But, you have to remember that they are speculative in nature and will not go up in perpetuity and hence you should not marry with those investments but sell it when the right time comes.
Commandment 7: Thou shall learn difference between good and bad debt
Learn to distinguish between good and bad debt. According to me, bad debt would be that debt which is used to create Gruesome / Bad Capital Expenditure – those assets like car, beach house which take away money from your pocket or a house which do not put any money in your pocket. On the other hand, Good Debt would be that which helps you in creating an Asset which then puts money in your pocket (income) as well as scope for future capital appreciation e.g. rental property which earns rent, shares which earn (tax free) dividends and both having potential for future capital appreciation. Never borrow to incur a revenue expenditure like foreign trip or gruesome / bad capital asset like a car, beach house because they will not only take away money from your pocket in the form of interest payments but also put you into recurring waste revenue expenditure in the form of maintenance of that gruesome / bad capital asset like petrol, repairs, property taxes etc.
Commandment 8: Thou shall make a proper retirement plan
If you want to enjoy the same life style which you are currently even after your retirement or have the joy of bequeathing your wealth to your children then start planning for it today. And be realistic about it – make an estimate of thou needs which will keep evolving with your age and time and also consider inflation in your computations.
Commandment 9: Thou shall remember these principles while investing in equities:
Ø Bull and bear markets run for several years. Hence determine the primary trend of the market and don’t generally go against the primary trend
Ø Market is supreme and above everybody - no Government, Central Bank, Industrialist or Operator can alter the primary trend of the market – they can only complicate the wave structure
Ø Once a low is made – it gets and has to be tested once or twice – if it gets tested again and again it means that it was not the low and market is eventually going to break it
Ø Right asset allocation and getting the macro view right are far more important and profitable rather than individual investment ideas
Ø Never invest or trade more than you can reasonably afford to loose
Ø Put stop loss at a logical, not convenient, place and always adhere to it
Ø Cut losses and let profits run. Don’t let a profit get converted to loss
Ø If you wait too long to buy, until every uncertainty is removed and every doubt is lifted at the bottom of a market cycle, you may keep waiting and waiting
Ø Act on your own judgment or entirely on the judgment of another
Ø Tips are for waiters and not investors
Ø When in doubt, stay out and don’t get in when in doubt
Ø Don’t overtrade
Ø Don’t invest or trade based on hope
Ø Learn to accept your mistakes in the market (otherwise market will make you accept it in a cruel way) and then analyze and learn from your mistakes
Ø Wherever possible, trade liquid markets
Ø Don’t believe everything which a corporate official says about his / her company’s stock
Ø When opinions in the market are too unanimous – beware because markets are famous for doing the unexpected
Ø Never be sentimental about an asset class or individual stock
Ø Market is more of an art rather than science
Ø Simple logical things work far better in the market place rather than complex algorithms, theorems, valuations principles, DCF etc
Ø Buy the stocks of companies that have shown consistent growth in earnings and producing those goods / services which people cannot do without
Ø Last but not the least - Never try to catch the top and the bottom because only fools can do it
Commandment 10: Thou shall not forget the above 9 commandments and keep reviewing, changing and refining it with time and your financial condition.
View on different Asset Classes:
Equities: The year 2011 was bad for equities with it loosing around 25% and valuations correcting from 18x P/E (15% premium to long term averages) to 13x (10% discount to long term averages). This correction synchronized with stubbornly high inflation, rising interest rates, policy holiday by the Government, various scams, depreciating rupee resulting to forex losses and uncertain global environment. What is the solution of all these problems and where the end lies, probably nobody knows. I just know one thing that we have to buy equities not at the best time but when we are moving from worst to bad times – probably the year 2012 will be that when we will move from worst to bad and with discount valuations invest in equities for the long term. And when shopping for stocks, during period of crisis, buy companies which are leaders in their businesses, have good management, currently facing P&L problems but with clean Balance Sheets. The Sensex is likely to bottom out in the range of 12800 to 14000; but the important point is that the roots of a new multi year bull market is likely to sowed in the year 2012 which is expected to take the Sensex to 35000 to 40000 by the year 2016 to 2017.
Fixed Income: Kindly note, that currently the inflation is high at close to 9.5% but the average for the past entire decade (2000-2010) was just 5% while the current interest rates are high at close to 10%. Therefore, if you have free surplus cash and don’t require for some years than take long term Bank FD and / or NCD of a reputed company and lock in at around 10% to 11% for the long term. On the other hand if you don’t have free surplus cash immediately but earn regular monthly income then lock into a long term (say 10 years) bank recurring deposit at around 9.5% and enjoy the high interest rates while inflation eventually does fall and at the same time build capital for your future.
Gold: As explained in one of my previous columns, Gold is a speculative financial asset with no real industrial use and whose value depends on the value of US Dollar, real interest rates in the US
Real Estate: High interest rates have taken its toll on this sector with retail and commercial real estate prices and rentals crashing by 30% to 50%. Residential sector has been resilient because of the developers withholding price power due to easy credit available from banks who in turn are supporting them since they don’t want that to be classified as NPAs after the problems already faced by the airlines, metals, mining etc sectors. So, it’s a chicken and egg situation but residential sales have dipped by 20% to 40% in different pockets of say a city like Mumbai. So, look to buying your house in the year 2012 with some bargain and discount from the developer while trying to time it in the middle of the interest rate reduction cycle (because you may not be able to get your house at a discounted price at the lowest interest rate).
Happy New Year 2012 with good health and sensible wealth creation!
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