David v Goliath

The Ten worst investment products / strategies

Crypto is the worst investment while even sensible investors fall for Active MFs

These are the ten worst investment products / strategies starting with the most destructive ones. While some people may accidentally benefit from these investments, they will harm a majority of people who use them. I have written in the past in Mint, Business Standard, The Ken etc about the flaws in a majority of these investment products / strategies. So, I will not go into the details here and instead, I will link to previous articles directly / indirectly on this topic. This list excludes meta bad investment strategies such as allocating a very high proportion of your net worth to equity / real estate. It also excludes products and services that are unambiguously illegal.

Crypto: Crypto (e.g. Bitcoin) tops the list as the worst investment products. I am hoping that this is sufficiently obvious and it makes more sense to focus on the less obvious items in this list, so let’s not waste time discussing this.

Futures & Options: Even if one ignores the likely thousands of crores in losses that individual investors as a whole incur in Futures & Options, the brokerage commissions on these trades itself transfers thousands of crores each year from individual investors to stockbrokers. To get individual investors addicted to trading, some stockbrokers offer zero brokerage commission on certain stock trades.

Technical Analysis: Speaking colourfully, a Nobel Prize was awarded for work more than half-a-century back that Technical Analysis is to rational investing, what astrology is to finding a compatible spouse.

Peer-to-Peer Lending: It is because Peer-to-Peer Lending is so risky that, RBI has limited your total investment in it to Rs 50 lakhs.

Individual Credit Risk: Why do you assume that you are smarter than banks in assessing which risky companies to lend money to, for example via Non-Convertible Debentures? Further, banks can diversify this risk more easily than you can, so taking under-diversified credit risk is irrational.

Structured Products, PMS (Portfolio Management Services) and Long-Short funds: It is because these products are so risky that SEBI has insisted on a minimum investment in each such investment of Rs 25 lakhs, Rs. 50 lakhs and Rs 1 crore, respectively. Since Active Mutual Funds (MFs) on the average are unable to beat the index, there is no good reason to believe that a different regulatory structure will allow mangers to beat the index on the average. This is why there is not even one PMS in India that charges fees only if it is really able to outperform the index, for example net-of-taxes and by refunding performance fees if it subsequently underperforms the index on a cumulative basis.

Buying individual shares: What reason do you have to believe that you understand the company better than the promoters / founders who have inside information about the company and can legally benefit from that inside information? The same issue applies to buying baskets of individual shares. This problem is even worse while buying individual unlisted shares because there is no visible market price for them.

Insurance Investment Products: In the ballpark of Rs 25,000 crores of commissions is deducted each year from people’s savings in insurance investment products. This is even without counting another very large amount which is deducted each year from such products which goes to the shareholders and employees of insurance companies.

Regular Plans of MFs: Significantly more than Rs 10,000 crores of commissions is deducted from the savings of MF investors each year. And most investors do not know that this is happening each year. Most investors assume that there may be a one-time commission which is not being deducted from their investment. Assuming that 1% is being deducted from your investment each year in the form of commission, then over 30 years, you have lost 26% of your investment. The amount that you lose in MF commissions over 30 years may be significantly more than the value of the apartment that you live in. (Article in The Ken that is behind a paywall - 'The Two-Headed Goliath - Mutual Funds and their Distributors')

Active MFs: Active MFs on the average are unable to beat the index. So individual investors are taking the risk of underperforming a low-fee index fund without being compensated for that risk. Hence, the thousands of crores of profits each year of the Active MF Asset Management Company industry is coming from the pockets of individual investors. This also applies to Factor Funds / Smart Beta funds which are really Active MFs that are marketed as Passive Index Funds. Since even sensible investors fall for Active MFs, this is an article about Emotional Arguments Against Index Funds an article about Relevant Passive Index Funds ; a podcast episode including about Index Funds ; an article about Understanding the S&P Indices Versus Active Funds India report ; an article about Why % of AUM RIAs will not primarily recommend Passive Index Funds and a podcast episode about Why % of AUM RIAs will not primarily recommend Passive Index Funds .

As the mania around Crypto and deeply unprofitable Unicorns vividly illustrates, it is even more difficult to stay disciplined when everyone around you is getting rich fast without deserving it. So, keep repeating to yourself, as Rudyard Kipling wrote, addressing his son ‘If you can keep your head when all about you are losing theirs… you’ll be a man, my son’.

Avinash Luthria is an hourly-fee financial planner and SEBI Registered Investment Adviser (RIA) at Fiduciaries.in

Posted on 28 November 2021

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