Financial Discipline Key To Wealth Preservation And Growth
Indians have always shown a marked preference to invest in real estate and gold, rather than financial assets like stocks or bonds. A high inflation rate coupled up with the general impression that physical assets could help avoid taxes seem to have sustained the trend.
However, developments in the past two-three years point to a structural shift in investment preferences from physical to financial assets. This shift has largely been shaped by key economic and political factors.
Inflation in India has hitherto been high owing to volatile food and fuel prices. However, despite poor monsoon, food prices have remained stable (barring some signs of volatility a few quarters ago) in the past three years, mainly because of several policies and reform measures introduced by the government of India. Subdued global food prices also helped in this regard.
International crude oil prices, too, have come down sharply and, by all indications, would remain low for years to come. All these factors cumulatively have resulted in lowering the inflation from 10-12 per cent to four-six per cent in the past two to three years.
On the other hand, the RBI is now tasked with the singular objective of ensuring that consumer inflation remains between 2 per cent and 6 per cent in the next five years. The trend signals investors that inflation in India is expected to be reasonably anchored at around four-six per cent in the next five years, bringing back confidence to financial markets.
On the political front, the government of India has shown a strong commitment to usher in transparency by weeding out black money and ensuring clean transactions. Demonetization is a key move in this regard. These steps have visibly improved the confidence of global investors, a fact being corroborated by the huge surge in foreign investment over the past three years.
Though policy makers are grappling with issues like Bank NPAs and corporate leverage, investors have begun to realize the potential of financial markets to preserve and grow wealth sustainably.
Harnessing this potential requires adherence to certain basic discipline. Building a portfolio is essentially taking a combination of risks to achieve a certain return as outcome. Indian markets today offer a range of choices, where investors with varying risk tolerance and return objectives can construct meaningful portfolios. This, however, requires clarity on key issues, including, the portfolio objective, risk tolerance, investment horizon, liquidity requirements, specific goals, taxation and most importantly, loyalty to basic discipline.
Formulating an appropriate and flexible asset allocation and diversification strategy, coupled with a strong product selection framework is a critical part of this overall exercise. Within the above category, twin objectives of capital preservation and growth will need to be woven in carefully. Most often, the disconnect between expectations and experience lies in either not setting the initial framework correctly and/or not adhering to the discipline so decided.
Wealth preservation traditionally focusses on capital preservation and inflation-adjusted real returns through debt instruments. The options here range widely across bonds/ bond products/ debt mutual funds across various risk profiles. Return and risk enhancements within this can be achieved through bespoke structuring and higher complexity and through ideas like Alternative Investment Funds (AIF). Quasi-debt options like pre-leased office properties and long-short portfolios can also meaningfully contribute to performance with cherry-picked risk. While the growth objective can be met through equity investments, increasing market complexity requires professional and active management of portfolios.
A large entrepreneurial boom in the country, led mainly by innovation, has opened the floodgates to High Net-Worth Individuals (HNIs) to traverse this huge opportunity segment.
Finally, while product innovation or differentiation can individually hold good potential, the success of any investment plan in attaining its original goals mainly hinges on following a portfolio-based investing versus product-based investing approach. It is equally important to maintain a diversified portfolio and regularly monitor it for mid-course corrections. We live in a world where a housing bubble in one country can plunge world markets into a prolonged crisis.
Shankar Raman is the Chief Investment Officer, Third Party Products, Centrum Wealth Management. He has over 20 years of experience in research, products and advisory services. Raman was previously Head of Investment Advisory for HSBC Wealth, India and BNP Paribas Private Banking.