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I have been re-thinking my time horizon for investments for some time and have made some changes to it. The corresponding impact on my investment decisions and how I look at the market swings has been dramatic. My earlier time horizon was on an average 2-3 years. However I have now increased my time horizon to 10 years for my SIP component. The active portfolio component still has a horizon of 2-3 years.

I cannot understate the impact of extending or changing time horizon has on how one looks at market volatility, current events, investment ideas etc. Let me illustrate

10 year or more horizon – If you are in you 20’s, 30’s or even 40’s this time horizon makes sense. For a time horizon of 10 years, short term market movements have no importance. Over a 10 year horizon, if you are looking at index funds or well managed mutual funds, a small amount of overvaluation does not matter. These overvaluations would even out as long as one has not bought extensively during the peak. At the same time if you are investing via SIP (systematic investment plan), then during a 10 year or more period, there will be periods of recessions, market bubbles and all kinds of fluctuations. However the portfolio should perform well (see my post on the power of SIP here)

If like me, you are investing a portion of your portfolio with the above horizon, the current circus on PN notes, subprime crisis in US, oil price etc etc will not hold too much importance. If you feel that Indian companies as a whole will do well in the next 10-15 years, then find an ETF, get into an SIP and get on with other things in life

2-5 years – This is my active portfolio horizon. I tend to look for undervalued companies selling at 50% discount to intrinsic value and if the gap closes in 2-3 years, I have a 20-25% return per annum. For this horizon, current market events make a difference in the sense they provide me opportunities to buy stocks which have been beaten down for no reason. The more the better. Beyond that, it doesn’t matter whether the market will open 1% up or 1% down.

1 year or less – This is the time horizon for the aribitrage component of my portfolio. I have written about a few likely opportunities earlier. Here some corporate action such as buy back, rights issue, spin offs create an opportunity. In this component, current market level or events should not matter. The company specific developments are more important. However I have seen that sometimes market events can suddenly throw off the entire calculations and result in a loss. I am still not heavily into arbitrage and would not have more than 10% of my portfolio in it in the future.

1 day – 1 month – I do not operate in this horizon. Profitable or not, it is not my cup of tea and I do not have the stomach for it. This where all financial websites, TV channels’ and several blogs focus. In this time horizon the current PN issue, subprime in US and whether the market will open higher or lower on Monday may matter. Question to ask yourself – are the returns you are making commensurate with the effort?

All I can say is that if you decide to play this game, have the stomach for it and don’t risk too much capital.

I have been reading on some websites and blogs, stories of people who got into the market near the top and are now suffering losses. I can empathise with them as I have gone through the same. The problem is that most of us think we can tolerate losses, but when they really happen it is gut wrenching. The worst thing to happen is that such people get scared from the market for ever and never return back. That is definitely not good in the long term if you want to build a decent nest egg.

I think it is important for us to understand our risk tolerance and see which time horizon we want to operate in and take investment decisions accordingly. That ofcourse is easier said than done.

Is’nt the above title like a typical get rich quick scheme ? Frankly there is no magic in the above. The approach is very simple. The NSE or BSE index on an average has returned around 16-17% per annum for the last 10-15 years. So if one can invest via SIP (systematic investment plan) around 1000 Rs per month, it should amount to around 6.4 lacs after 10 years. This is with the assumption that the gain is evenly distributed ( @ 1.4 % per month) across the entire 120 month time period.

Ofcourse reality is not that convinient. However volatility generally helps in improving the overall returns in an SIP plan. So if one can maintain the discipline of investing 1000 per month irrespective of how the market is doing in the short term, it will work out in the long run.

Let me give a few scenarios (investing 1000/ month)

Anyone can follow this approach by regularly investing in an ETF or an index fund for the long term and come out well. Even better if you can find a mutual fund which can beat the market by 2-3% point.

So where’s the catch? well there is none really. The main problem is us. Think of it … where is the sex appeal or sizzle in this strategy. If you discuss this with your friend, do you think you will get anything more than a yawn? Who is going to be impressed with this approach ?

I know what comes to everyone’s mind (mine included), namely – I am a better investor. I can make 25% per annum and have beaten the daylights out of the market for last 2 years. Who wants this boring strategy, when I can do all kinds of fancy stuff, have fun at it and boast about it too. Maybe its true, but can you be sure?

So the question is – is it better to follow a known strategy and build a decent nest egg in the next 10-15 years, or try for the moon which may or may not happen.

I am not different than anyone else and tend to follow both approaches at the same time. I prefer not to discount a simple and effective approach. As a result a portion of my portfolio is always indexed and in SIP.