5 reasons Why Many Investment Portfolios Do Not Succeed
Ever wondered why some investment portfolios succeed over the long term, while others fail? Here are a few of the top contributors to a poor performing portfolio. Make sure you’re steering clear of all of them!
When the going is good, and when asset prices have already risen, both confidence and optimism tend to spike; lending the courage to actually go ahead and invest after they’ve been sitting on the fences for extended periods of time. This is dangerous for two reasons: one, the time might actually be ripe to start going underweight in that particular asset class. Two, the investor’s mindset may be dangerously speculative, just waiting to leap off the train at the first sign of turbulence. Equities, real estate, gold, deposits – you name the asset class, and the behavioural patterns remain just the same.
When you’re building a portfolio, make sure you’re not actually going in to make a quick buck. Asset classes will go through cycles, and often not precisely as per plans. Be prepared to weather the storm and stay put, or you’ll end up catching the bull by its tail (or getting mauled by the bears) more times than you can count. Understand the investment horizon applicable for each asset class and be prepared to stick it out until and unless something changes dramatically at the structural level (for instance, if the country itself gets downgraded it might call for a complete shift in your asset allocation strategy).
Setting Wrong Expectations
Unfortunately, many portfolios have the seeds of failure sown within them right at the beginning! This is typically an outcome of a poor expectation setting exercise. Any well-designed investment portfolio must necessarily involve an exhaustive process of setting expectations – in terms of expected returns, time horizon, interim volatility expected and key risks involved, at the very least.
Realism, as opposed to both unbridled optimism or dire pessimism, will hold you in good stead during the expectation setting exercise. Return expectations must be in line with your asset allocation, long term past performance of the asset classes chosen (preferably over at least two complete business cycles) and future outlook for the asset classes in question. Anything over and above the projected returns need to be looked at as a bonus (at best) or a short-term aberration (most likely).
Reacting Instead of Responding
A close cousin of the speculative mindset is the ‘reacting to news’ habit. As many as nine out of ten times, news flows warrant no action whatsoever. Somebody wisely suggested that in the short run, markets are a voting machine whereas in the long run, markets are a weighing machine. Trading the news is akin to bolting the door after the horse has fled; markets almost never react to news, but rather incorporate the most likely outcome of the news event in the run-up to the actual occurrence itself. Shocking and unanticipated news, on the other hand, might create entry points into otherwise fundamentally strong asset classes.
Greed and Fear
What’s the best time to buy more of something? When prices have fallen. Unfortunately, this is also the time that most investors wouldn’t consider touching it with a barge pole. As asset prices rise, so does optimism – and along with that, the propensity to invest. Thus, many investors fall prey to what we call the “Reverse Shift” in asset allocation. In other words; fuelled by greed and fear, their asset allocation moves in the exact opposite direction than it should. For your portfolio to succeed, you’ll need to break out of this rut once and for all. Stick to your broad, strategic asset allocation plan (for example, a 50:50 split between equity and debt assets) regardless of what’s going on in the mad, mad world around you. This involves the periodic sale of an asset on the way up and the periodic purchase of an asset on the way down. You’ll be surprised at how this simple habit can influence your portfolio in the long run.
Not following the “Middle Way”
Investors should follow the Buddha’s ‘middle way’ when it comes to monitoring their investment portfolios! Churn in and out of asset classes too frequently, and you’ll likely lose money and wind up increasing your transaction costs. Adopt a completely passive strategy, and you’ll miss opportunities, plus your asset allocation will be thrown out of whack with every passing year. Set up a disciplined review process with your Financial Advisor, even if the review outcome is ‘no action needed’ – even once a year is OK.