However, it is commonly noticed that the same rules do not apply when you are investing. Often you invest because some friend gives you a "hot tip" that is likely to double or treble your wealth in a short period of time. But it is important to remember that investment per se requires a goal and a proper roadmap to achieve it.
And despite continuously harping about the benefits of a planned approach, it is often found that many investors just start with their investment programme without any proper planning or investment roadmap. In fact, very few follow a written investment strategy that will guide them through volatile times in the market, like the one we are witnessing now.
Let us look at Murli Sharma, one of the many who commits such mistakes everyday. He has some faint idea of his objectives and goals, not very sure of his risk tolerance and the definition of long-term horizon for him is one year. Of course, he made some gains in the market during the upside in the last few years.
Armed with that confidence he decided to dabble in the futures market and immediately found it too sticky for comfort.
After losing all the gains he had made previously, I advised him that "Two of the biggest mistakes in the investment arena are not having a plan and not knowing what to do in various market situations." Of course, he preferred to lay the blame on poor product selection and performance of investments.
The basic idea is to know where are you going and how do you intend to reach there. Hence, here are few questions that you need to answer
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What are my financial goals? House, car, children's education, travel abroad, retirement and others
- What is my risk-taking ability? I get ulcers when the market is volatile (low risk appetite) or I can happily sleep through the chaos (high risk appetite).
- What is my investment horizon? Here the point to note is that there are many who understate their time horizon. That is, if you say that your investment horizon is three years, it essentially implies that you will need the proceeds of this investment to satisfy a certain goal. But most of the times this is not the case. You just put a number to the investment horizon because you think it would be ideal for you to book profits after three or five years.
But goals like retirement after 20 years have to be funded for longer periods of time. And many a times, in spite of having the ability to hold on for 20 years, you book profits earlier and therefore lose the opportunity to make further gains or benefit of compounding.
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What are my liquidity needs? Requirement for extra funds in the next one year for that car or travel or regular income post retirement.
Once you have answered the above, start with the next set.
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Is my asset allocation in line with my risk profile? Most have no clue of this and that is why they overreact during a correction or upside.
- Am I dealing with my investments emotionally? Shares gifted by your grandfather need not be held even when they are slipping.
- Am I chasing investments without adequate safeguards of insurance? Address your insurance needs first and then go for financial strategy that requires aggressive investment.
Coming back to Murli, he watches business channels and reads every possible financial magazine and paper. He develops his financial strategies from them. His equity allocation is completely different from his risk profile. It can happen to you as well. And that will hurt.
The writer is director, My Financial Advisor.
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