Wednesday, March 3, 2010

Part 12: The World works for its own benefit, not yours

So we are willing to take losses; not happy, but willing.  This is because we understand that any asset class comes with its inherent risk/return equation, and losing money is part of the investment game.  However, there are other reasons that we take losses as well, and those reasons are due to the fact that we are not well informed.  There’s no reason for us to get into those common traps – let’s examine some of them.

We rush to invest in IPO’s.  It’s like someone is distributing lollipops free.  We take trouble to fill in forms, block our money for days, and wait for the allotment.  If the allotment comes - and most of the times, it is partial allotment - we are jubilant, as if we have just won a lottery. It’s a major victory since we know several people who did not manage to get allotments. Have you ever reflected on the fact that it’s the promoters who are selling their shares to you in an IPO; and they have decided the timing, and the price? Would you want to buy something at a time and price convenient to you, or to the seller?

IPO’s invariably are announced when the market is doing well and share prices are generally buoyant. The promoter teams up with a merchant banker who creates slick presentations on why the company has a great future.  A lot of fiction gets distilled into numbers at this point. It is marketed heavily, and both institutional and retail investors queue up.  The amount of oversubscription in some cases is huge, thus requiring a lottery for allotment. Obviously, since demand is high, you would expect the price to go up significantly on listing; hence you rush to invest.  Pause: are you investing in the company for its long term prospects or short term trading gains?  If it is the latter, then you are just waiting for another fool to come and buy it from you at a price higher than what you paid – it’s called the greater fool theory. In times of intense speculation, this works well – just hope you are not the last fool who is left holding the baby!

Most IPO’s fall below their issue price within a year of listing.  Of the several companies which came out with IPO’s in the last five years, you would hardly touch 20% of them today – the others are either names you have not heard of, or companies that do not inspire any confidence.  Why don’t we just wait and pick them up at our time and our price from the market?  That’s because the marketing machinery creates an illusion of shortage; and we want to go grab it since we may never get it in future. There was a time when in India IPO prices were set by the Controller of Capital Issues (CCI), a government body that used to set the price at far below the intrinsic value.  Equity culture was not prevalent then, and those who applied to IPO’s and held on to it, made a lot of money.  There is no more CCI now, and the promoters are free to price issues at any level they want. Looks like as a society we have still not got away from the hangover of discounted pricing. Don’t you rush to the big bazaar when there is a discount sale on?

As an employee of Fidelity, you are anyway not supposed to invest in IPO’s. Rather than a lost opportunity, it may actually be a blessing in disguise!

Your primary motivation for insurance is to save on tax.  You think you are killing two birds with one stone. So you contact the “agent” who happens to be your aunt twice-removed whom you met at your wedding. She understands nothing of financial planning, but of course you know that.  Or, she understands a lot of financial planning – her own, and is out to maximize her commission. She pushes a Unit Linked Insurance Plan (ULIP) product on you – you get to save tax, you get insurance, and your money is invested so that it grows! Killing three birds with one stone!  What is never stated is that there is only one bird in this case, and that’s you; and there are three stones.

There are far better avenues to invest to save on tax – PPF, ELSS are two examples. There are far better ways to insure yourself – term insurance is the best example. And there are far better ways to grow your money – investing directly in mutual funds saves you all those horrendous commissions that are deducted from your premiums and gives you a much more transparent product where you are able to track what’s going on. As you keep paying your premiums you never really understand what happens to your money, and how much commission your aunt gets in the process.  You do get a lot of money back – you are happy but do not realize that the returns are in most cases less then inflation.  You would have been better off keeping your money under the pillow. The aunt talks very sweetly to you whenever you meet, but even simple things like reminding you to pay your premiums, or helping you change your address in the records, she won’t do!  She will, though, definitely attend the naming ceremony of your son, so that she can sell you a Child Plan – guaranteed to secure his (and the aunt’s) future!

Your trusted bank manager who has access to your bank account details calls you. Coincidentally, it is about the time when your bonus has been credited to your account.  He sends over the wealth manager / your trusted relationship advisor / slick salesman to meet you at your office. Since you are a “preferred customer” they come to your doorstep to take your money away – in any case you will not see a major part of it again, but they make it easier to hand over for the High Net Worth customers.

The person who has come to meet you has targets.  He is supposed to sell you all kinds of products for which the bank has tied up with various providers. These include mutual funds, insurance plans, and more insurance plans.  When it comes to funds they will try to push NFO’s (New Fund Offers) on you since that is where the commissions are maximum.  When it comes to insurance their preferred order of selling will be ULIP’s, Pension  Plans, Child/Widow/Widower/Daughter’s marriage, etc. Plans and Plain Money Back or Endowment Plans, and they won’t even mention term insurance.  When it comes to your own financial health the preferred order is reverse – in fact, you should be buying only term insurance and nothing else; and investing in funds with good track records, preferably directly on your own without advisor fees.

Of course, your trusted personal wealth manager (since you are a “preferred customer”) has only your interests at heart. He will be very solicitous about your health, inquire about your family, sympathize with you about your marital state or state of marriage, and then proceed to use all that information against you. You will have tears in your eyes by the time you sign away your bonus cheque into six different products, most of them savings-cum-insurance plans, since he has been so eloquent in his sales pitch.  He is happy since he has achieved a substantial portion of his target through you, managed to sell you the products on which he gets the most commissions, and managed to convince you that he is your friend.  It’s what is called a win-win situation.  Where everyone wins but you lose. The branch manager is still not happy – his targets are high, and he needs his sales guys to find a hundred more customers like you.

And so it goes on. You are the golden goose, and they are out to milk you.  I think I am mixing metaphors somewhere.  Milking the golden goose sounds a little funny – but you get the idea. 

More about marketing gimmicks in the next issue.  Bye!

1 comment:

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