“Will the market fall?” – A wrong question to ask …

Here is a very interesting paragraph from Ronnie Screwvala’s book Dream With Your Eyes Open – An Entrepreneurial Journey:

Understanding and accepting failure now will give you the clarity and the resolve you need to survive the big bumps. No matter who you are, how solid your connections, your financial status, or any of the thousand other factors that determine success of a business, understand one thing: At some point, you’re going to fail. And not just once. Internalise that reality and make it part of your entrepreneurial and leadership DNA. The only question you need to answer is: When I fail, how will I respond?

A wrong question to ask for any entrepreneur is: “Will I fail?” The correct question to ask is: “How do I respond when I fail?” Similarly, the wrong question to ask is, “Will the market fall?” The right question is “When the market falls, how do I respond?”

Asking this second question is all about preparedness. We have repeatedly said in the book Riding The Roller Coaster – Lessons from financial market cycles we repeatedly forget: “If you cannot predict, protect”. And protection must start with preparedness.

He further adds:

What’s worked for me over the years is to recalibrate and consider my worst-case scenarios, gauge my ability to cope, and work on viable solutions without panicking. Once you can do that, you’re already on the road to recovery.

This is also important to be a good investor. And in order to recalibrate and consider your worst-case scenarios, it is important to read the history and see the follies of others in the past. You do not need to walk the whole path all over again. You can start with reading Riding The Roller Coaster – Lessons from financial market cycles we repeatedly forget. The book highlights many episodes that happened in the world of financial markets and how people responded to the situations.

Learn from the events and learn from the way people responded. You would be able to build a solid investment strategy for yourself. If you are an investment advisor, it would help you build investment advice for your clients. You may also consider gifting the book to your clients as reading the same would help them appreciate your perspective.

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The risk of not diversifying

Few days ago, we explained the need for diversification: read the post here.

Now add to that three important points:

  1. The fall in the value of a concentrated portfolio as compared to a diversified one, and
  2. The investor behaviour of chasing the recent past performance
  3. At any point in time, at least one part of a diversified portfolio would outperform the diversified portfolio itself

These three statements mean a huge risk for most investors. Let us elaborate. First of all, at any point of time, the diversified portfolio would underperform at least one part of its own. In a bull market, especially, one sector would be leading the rally. This sector hogs the limelight. Since the performance is great, many investors invest in it only after seeing great past performance, which means most of the gains have been made and the prices have reached high levels. Buying costly is always a riskier proposition for investors as money-making opportunities are less of one buys costly. The faster rise is often followed by a steep fall. The leader in the rally is generally the leader in the fall, too.

since the investor missed out on the rally and entered at higher levels, there is disappointment for her.

Read more about some more examples in the book “Riding The Roller Coaster – Lessons from financial market cycles we repeatedly forget:

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Market Kaisa lagta hai?

I have often wondered about the way certain discussions take place. Many times, one has come across the question, “How is the market?” and the person to whom the question is asked, answers, “good” or “bad”. The market is considered to be “good” when the prices are rising and “bad” when they are falling. This is surprising since low prices cannot be good for both the buyer and the seller. Ditto for high prices.

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