Recently, a friend and I were discussing investments and equity came up.
While I am not very active in the equity market these days, I am, as always, an eager student of finance. My own equity strategy has changed a lot.
Initially, I used to be over confident of my equity analysis skills and used to dabble in individual stocks quite a bit (well, I certainly did the hard work – spent 2 years reading everything I could from 2005-07. Few books, I have recommended here).
Just like most people, I mistook the overall good performance of the market as my ability to be a good investor. I used to even maintain a finance oriented blog and discuss equity analysis (I did spend quite a bit of time teaching myself equity analysis, balance sheets and basic accounting).
Then one day, I picked up “Where are the customers’ yachts?”.
Things changed since then.
The book basically ridicules the entire financial industry and its mechanism. It talks about how the interests of the brokerages, agents, fund houses and just about everyone is not aligned with that of the customers’.
If you are very active in the market, the more you buy and sell, the more commissions these guys make. But good investing requires you to do the opposite – these guys will do everything to make you trade more irrespective of whether it is good for you or not.
It talks about how futile it is to try to predict the future. It talks about how people mistake intelligence for what actually was chance.
I took a step aside and looked at the financial industry – and realized how much noise there was and how much I was getting sucked into it.
I made quite a few changes in my style. I stopped being a very active equity investor. Instead I replaced it with simple non-time consuming strategies.
One such is to invest in the index in a planned manner.
Before we even go into it, please note that
- I am neither qualified nor compelled to be right on this topic.
- It has worked for me in the past, but might not in the future.
- Anything involving an index means… average performance. You are neither trying to beat the market nor trying to be clever, but you are riding the average. Average returns dont satisfy you, please look elsewhere! You can’t become Rakesh Jhunjhunwala following this strategy! But, this is average performance for nearly zero effort.
Okay. Here we go.
- Go to http://www.nseindia.com/products/content/equities/indices/historical_pepb.htm
- Choose CNX Nifty (if for your own reason, you want another index, you could change it)
- Choose whatever dates you like for from-to fields.
- Check All option and hit ‘Get Data’.
- Now, you get the historical P/E, P/B, dividend yield of the index
Now, the simple rule I have followed in index investing is:
- Index P/E < 12 : invest like a madman, for a 5+ year period, risk is pretty low (of course, if you look at post 1929-depression Dow Jones performance, you will disagree with me.)
- Index P/E between 12-15 : its still good. Invest in the index.
- Index P/E between 15-18 : Hmm. You could slow down a bit, the market is warming up after being low.
- Index P/E 18-22 : stay put, but don’t commit fresh funds
- Index P/E 22+ : start selling, but don’t regret if the market hits new highs after you sell
The other indicators – P/B of about 2.5 or lower and Div yield of about 1.5 or higher is another plus for me.
To buy an index, my chosen option is Nifty Bees (ETF).
This method has worked well for me. Zero research, considerably lower risk than individual stock investments. If you take any 5 year period from 1998 till date and work this out, you find that you made a profit even during bad times.
That said, in a good market, the PE is definitely going to be higher than 18 and you are going to sit it OUT. It could frustrate you for not being in .
Also, when the P/E is about 12, it probably is bear market time. You should have the guts to invest at that point – remember October 2008, did you invest in equities at that point or did you run away? If you ran away because everyone lost his shirt, you probably lost a great opportunity.
Again, like I said, any index is about average performance. So you should be happy about not being better or worse than the average, but the average itself. Of course, you should know that a lot of fund managers fail to beat the index (esp in developed markets).
I do invest directly in stocks, but its a much lower percentage of my savings than it used to be. Importantly, I DO NOT USE the above strategy to invest in individual stocks. For individual stocks, just a look at P/E is definitely not enough.
As of today, I notice that the index is just around the 17 P/E. Except for a few individual stocks, I have been out of the market for a while. (I am quite active in a bear market though, cherry picking time).
For the trolls:
From the experience of having run a financial blog for 2-3 years, I know a few I-know-better trolls will write stuff against having any such strategies and how past performance is not an indicator of future and blah, blah. If your opinion is such, please don’t waste your expertise here.