The current fall in the markets has been a godsend for professional investment advisers. Let me give you the many reasons why. As required, we always assess the risk-taking ability of our clients and document our findings. We also ask our clients to fill up a risk-profiling questionnaire. Sometimes, the risk profile thrown up is lower or higher than what we have assessed, based on our interactions. In such cases, we almost always follow our personal assessment (rather than the statistical risk profile thrown up by the questionnaire), after properly documenting the variance.
Here’s an example. I had assessed this middle-class retired client as a low-risk taker. But he was urging me to invest his monies in pure equity funds, as he did not require the money for the next 8-10 years at least. He claimed he was well aware of the risks of investing in equity and was capable of bearing it. He already had a substantial equity portfolio that he had built up over the years.
I was reluctant to invest more in equity and suggested long-term gilt funds instead as interest rates were expected to fall in the coming quarters and gilt did not carry any credit risk. I had hoped the interest rate movements would benefit him. Even the mutual fund house described the scheme as moderately low risk. I told him that these investments could give him a fixed deposit plus/minus 2-3 per cent return, but his post-tax return would be good since he needed the money only after many years.
I also warned him that if interest rates move higher, he could see a temporary drop in the value of his investments. But it would recover over time. Initially, things went right. Interest rates dropped by around 0.25 per cent in the first few months. The value of his investment improved, and the annual internal rate of returns was almost double digit. However, after nine months when the interest rate became a little higher, the annualised return dropped to five per cent. He withdrew his entire amount even though he did not need it. It was a lesson to me to never again distrust my risk analysis skill and to work harder to manage the expectation of clients.
We human beings are so attuned to problem-solving that we don’t realise that some problems are solved by not doing anything at all.
But the itch to do something is quite intense. So, when another person recently called me to seek advice on falling returns of his New Pension Scheme investments, my advice was – do nothing. I understand that they would feel more than a little dissatisfied if a top doctor charges them a fee and tells them to take hot soup and wrap themselves warmly. But the advice remains sound. Investment advisors should be like that doctor. Do our homework well, and tell clients to stick to the plan.
The writer is a Sebi-registered investment advisor
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Disclaimer: These are personal views of the writer. They do not necessarily reflect the opinion of www.business-standard.com or the Business Standard newspaper