There’s said to be an ancient Chinese curse, “May you live in interesting times.” If living in interesting times is a curse, then investors who had gotten used to making some gains our of equity investing, the last four years have been very interesting indeed. And with the Indian economy in the state it is, and Europe in an ever deeper funk, we’re probably in for even more interesting times. One of the most common fake lessons that are being drawn is the unsuitability of equity investment for a large set of people. A wide variety of investment advisors are saying, frequently and loudly, that investing in stocks is an activity that should be limited to only those who can ‘bear risk’. This basically means rich people. The unsuitability of equity for ordinary folk is now almost a given. I believe this is a big mistake. There are two approaches to evaluating equity as an asset class. One is the empirical approach, which examines the past track-record of equity investment to try and figure out what equity’s performance is worthwhile. The other is what I would call the philosophical approach, which holds that equity investment is the only way to stake out one’s share in the general growth of the economy.
However, all the dearly-held principles of equity investing seem to have failed during these years. For years, concepts like diversification and gradual investing have been the cornerstones of financial planning. The logic was supposed to be impeccable. Economic troubles usually limit their impact to some sectors. Even if stocks of companies in all sectors fall, the affect is generally less severe in many of them. This was certainly true in, for example, the crash of 2001.
But in recent years, this doesn’t seem to have worked at all. You could have been broadly diversified across every major sector; it would hardly have impacted your losses. Some may have done worse than others. But being diversified hasn’t saved investors from the crash. When the entire economy is in doldrums, diversification isn’t any help.
Beyond sector-based diversification, there’s geographical diversification, but that didn’t work either. Admittedly, only a few Indian investors invest abroad—there are only a handful of mutual funds through which this can be done. However, even if you had been fully diversified across every major economy in the world, your losses would hardly have been less worse. This failure of geographical diversification is the flip side of globalisation. The world’s economy is so interconnected now that geographical diversification may have been rendered useless.
Besides diversification, there are other longstanding principles that have suffered. For example, investors who have succumbed to stopping and starting their SIPs have seen poor returns. What does this mean? Should we abandon these basic principles of investing? Not quite. What this does mean is that these principles get stretched in the kind of extreme crisis that the world is facing now.
Equities have their ups and downs. Equity investing is supposed to be only for the long-term so that investors can average out their investment cost and capture the gains inherent in the overall upward direction of stock prices. I think the problem lies in the interpretation of what ‘long-term’ means. Long-term means a much longer horizon than its taken to be in our equity investing culture. Invest a good portion of the money that you won’t need for a decade or so into equities. And keep doing it, year after year. In the long-run, not investing in equity is certain to prove a far bigger mistake than investing in them will be.