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Complex Caricatures

You don’t need to know a lot of complex things to choose a mutual fund, a little bit of common else will do…

Back in early 2008, when the financial crisis was still young, I remember hearing someone say that many investors in India were ‘over-literate’ and this was exaggerating their response to the crisis. I remember agreeing with the idea quite wholeheartedly at the time. There were a lot of individual investors and market participants who were obsessing with the details of the US sub-prime crisis rather than fixing the risk levels of their own investments.
However, apart from what happened during that unusual time, over-literacy is a continuous problem. Don’t get me wrong—I’m not saying that investors should not be knowledgeable. In general, investors should understand as much as possible about their investments. However, investing has a large baggage of useless complexity which investors have no need to bother about. One example that I come up against repeatedly is that of investors trying to choose mutual funds on the basis of the arcane measures of portfolio theory.

You can see these people operating with great enthusiasm on internet discussion forums about mutual fund investing. Some innocent newcomer will write something about X fund having done better than Y fund. Immediately, a know-it-all will swoop down with details on how the alpha or the beta or the R-squared of X fund compares with Y. This will be accompanied by dire warnings, generally written in an openly derisive tone, that basically tell the original poster that his whole approach to investing is an insult to real investors. The victim will then slink away with the clear impression that unless he can educate himself to the exalted level of the geniuses whom he has just interacted with, he might as well not invest.

This problem of self-declared experts out to show their superiority to novices is simply another case of a phenomena that you come across in different walks of life. Whether you are choosing a mobile phone, a car, a TV or even a pair of running shoes, you are likely to be set upon by self-declared experts whose basic goal seems to be to show off their superior knowledge, even if the knowledge is useless and/or self-invented. This can generally be done only by pretending that the more complex inputs mean better decisions.

In reality, nothing could be further from truth. It is possible to choose a mutual fund with nothing more than a little common sense. All you need to is to roughly compare the returns that various funds of a type have generated over somewhat long time periods of more than a year or so. You can also look at the ratings given to funds on ValueResearchOnline.com and some other websites, and that’s about it. Nothing more is actually needed to make a reasonable choice. Of course, this won’t make you choose funds that will have the very best returns in the future. That can only be done by having a magical ability to see into the future. What it will do is to allow you to avoid the duds, and if you can do just that much, you will be fine.