Avoid greed, embrace patience

We had started out quoting Michael Douglas who has won an Oscar for his performance as Gordon Gekko in the 1987 blockbuster Wall Street. One of the most memorable quotes in the movie was when Gekko tells his shareholders - "Greed is good. The point is, ladies and gentleman, that greed - for lack of a better word - is good. Greed is right. Greed works. Greed clarifies, cuts through, and captures the essence of the evolutionary spirit. Greed, in all of its forms - greed for life, for money, for love, knowledge - has marked the upward surge of mankind."

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Yet, twenty years on, greed was to be the very reason that would bring the US to its knees. This very greed has already claimed victims such as Bear Sterns, Lehman Brothers, Freddie Mac, Fannie Mae, AIG, Fortis…the list goes on. Ultimately it was the American taxpayer who had to turn saviour by having to bear a bailout package that ran into several billions. All this due to just one human failing - greed.

The immediate fall out of the financial crisis was that a one time irrational exuberance gave way to delirious panic. There is a difference between panic and panic bordering on delirium. Perhaps the American investor was justified in being alarmed, he did not know which bank could run into trouble next and whether his money was safe or not.

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But we Indian investors acting in similar fashion was pure insanity. Repeatedly, we have stressed in these columns that the problem was and perhaps continues to exist in the Western financial markets.

Our policy makers, admittedly more by accident rather than design, have managed to keep our financial institutions and banks reasonably safe from suffering a similar fate. There may be the odd bank or two which may have run ahead of itself....but the amounts involved, given the overall context are trifling and easily digestible by our financial infrastructure.

Here we are reminded of John Luther's quote - 'Learn from the mistakes of others-you can never live long enough to make them all yourself'. As the so called biggest catastrophe since the Great Depression is unraveling all around us, what are the lessons that we can learn?

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Greed is a vice

Though we will never be directly buying Mortgage Backed Securities (MBS) or Collateral Debt Obligations (CDOs) which have created this mess, yet, we can learn a thing or two from the investors who did.

As already mentioned earlier, greed was the primary reason why such large sums of money went into these investments. So we need to ask ourselves – as investors, do we tend to be greedy? Well, have you ever bought a stock based on a tip or a strong rumour? Who hasn't? Did you buy equity at 20000-21000 index levels in January without really doing your homework? Again who hasn't? The truth is that most investors do not have the time, inclination or the knowledge of how to really value a stock. Yet they make direct equity investments based on something they heard in the train, or on TV or during the coffee break at office.

The underlying reason is sadly greed. The smart investor on the other hand does his homework, understands the facts and then makes an informed decision. If this is not possible for any reason, then he or she employs a mutual fund with a strong track record to do the hard work. And lastly, they never ever make the cardinal sin or trying to predict the market.

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Ignorance is never bliss

There is yet another reason for the meltdown. And that is ignorance or lack of knowledge. Apart from the now notorious broking firms and investment banks, many other investors including hedge funds, municipalities, pension funds etc. have also been affected since they committed their funds in spite of a limited awareness and understanding of the risks involved.

Own what you know and know what you own is one of the most basic lessons of investment. And yet, it was flouted. In the domestic context, the risk is of being talked into churning your investments since the current ones are losing value. Now that mutual funds do not compensate as well as they used to, agents and distributors have started resorting to greener pastures. The other day, a sales representative of a large broking house called to try and talk us into subscribing to their PMS (Portfolio Management Service).

The pitch was that the broking house had devised a portfolio that would not only protect the capital but also earn a handsome profit. Basically, no risk - only return. We told her that if this were true, then her employer would not be called a broker, he would be called a magician. So, please be aware that there is no such thing as risk free return in the equity market.

PMS providers, ULIPs and structured products (that have lately hit the markets) all basically do the same thing as a mutual fund does - employ your money in the stock market for a fee. Only thing is that the fee is far higher and the regulation far more lax. In other words, these products have nothing to offer that a plain vanilla mutual fund cannot, however, some can covertly strip your capital by insidiously camouflaging expenses and charges.

To sum

The events of the past clearly show that most people are long-term investors as long as the markets keep going up. However, every dream has a price. Your financial dreams have to be paid for with patience and conviction.

Every year that you make this payment takes you that much closer to your goals. So no matter what you do, stick around. Or to quote from another movie closer to home "Abhi picture baaki hai"

The authors may be contacted at wonderlandconsultants@yahoo.com