labels: investment - general
In Search of the "right time" to investnews
19 December 2005

Are you afraid of the sudden fluctuations of the equity markets, yet want higher returns on your investments than banks offer? A systematic investment plan (SIP) may be just what you need, says consultant Dr Uma Shashikant, former VP, knowledge management, Prudential ICICI AMC Ltd.

Dr Uma ShashikantWhen I see the investor transactions in equity mutual funds, I know that most investors exhibit this search for a winning strategy. They buy and sell, switch in and out, hoping that they have timed it all right and will make money at the end of it all. Investors seem quite convinced that the best way to make money is to be 'active' in getting in and out of the market. Such behaviour makes them feel smart and market savvy. It perhaps also gives them a number of stories to talk about in their social circles. After all, it is not always that one quits before the fall or buys before the rise.

After hearing another round of such 'smart' strategies, I thought I must check with the data that I have, about how much money such smart investors would actually make. Given my training, I went to my worksheet of Sensex numbers, which has daily values for the index since April 1, 1979. Twenty-five years is lot of data - long enough - I told myself. I truly wanted to see how much money smart investors would have made. I first made a summary of what I saw as returns. Here is what I got:

This picture shows the difficulty in trying to get in and out of the market with any level of accuracy. If one had chosen to buy into the market soon after it went up, one would have done so 143 times, and landed with an impressive return of 107 per cent, before costs. At a one-per-cent cost per transaction, most of this gain would get wiped out, after allowing for costs, anyway.

A truly remarkable timing strategy will be one that allows you to enter the market at the right time and, more importantly, quit the market at the right time as well. If all that you had to guide you in this process was the market level itself, I see no pattern. It is easy to look at the price chart and find some clues to when you should buy and when you should sell. But the truth is, you always operate with a lag. If you wait till you see the price, that is not the price you get. You get the next one, which can be too high or too low.

That is truly the catch in the armchair strategy of buying low and selling high. It is only after these points were reached, that you know they were ideal; it's all in the past tense - in hindsight. What you will have to make your decision, is a chart of the kind you see here, which shows your actual experience in return terms - not some price points which you may not be able to capture.

Rule 2: Given the tendency for markets to alternate between gains and losses, it is nearly impossible to be right with both buying in and selling out.

Is there money to be made at all, then? Sure, if the investor simply told himself that he would not time the market but, given his understanding that the market would do well for him over the long run, simply chose to invest a fixed amount of money every month. In other words, the investor decides to do a Systematic Investment Plan (SIP). He does not worry about where the market is going, but invests on a given date every month, month after month.

I assumed that there was an SIP on the Sensex, and that an investor invests Rs 1,000 every month. The amount of money he would have invested is Rs 302,000 (Rs 1,000 over 302 months = Rs 3.02 lakh). The value of that investment as on July 1, 2004, would be Rs 2,771,243 (Rs 27.71 lakh).

The compounded annual return on the SIP is 14.8 per cent

The investor would have benefited from the averaging impact of the SIP, because he would have bought fewer units when the price was high and more units when the price was low.

The systematic investment in the index would not have captured the entire 20 per cent return that is theoretically in the market. This is because it is a mechanical strategy to buy. Similarly, it is only an averaging-out technique that ensures you are in the market through its ups and downs, and manage to have an average cost that is lower over time. But the SIP is the closest you can get to making the most of the markets, without having to take a call on timing the market. That is the single most important merit of the SIP.

Rule No 3: A systematic investment plan will make most out of the market, with the least levels of effort.

To be able to capture the growth in the equity market, two ingredients are required. First is the essential conviction that enterprise will be alive and kicking, and there will always be a set of companies doing their job well and earning profits. Without a healthy level of optimism and a faith in the long-term fruits of entrepreneurship, there is no point to being an equity investor. If you invest today and worry about the price of your stock tomorrow, equity can be very disappointing.

Second is the need for patience and discipline. This can come from the understanding that pre-tested winning strategies that work like magic, do not exist in equity investing. Rather than chase that elusive 'right time' and 'right pick'; it makes sense to be a systematic and regular investor in a broad basket of shares.

Consider the Systematic Investment Plan (SIP) - it could be your route to equity investing, without the stress and the sweat.

also see : FAQs on systematic investment plans

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In Search of the "right time" to invest