Asset Allocation Secrets Revealed with Kalpen Parekh

Vivek Ananth: Let’s talk about this idea that we will never lose money in the stock market. It's a huge narrative that will be broken in the next 10 years. The fact that SIPs are perceived as seatbelts is also not entirely accurate. SIPs are not seatbelts. The largest market cap companies today in the world, like Amazon, have seen a 90% price fall multiple times before they became large. The biggest enemy of good investing is to not invest at all. Prices are low, never get excited if SIP numbers are rising. That should also not happen. Never get scared if someone else is canceling their SIPs. Everyone’s investment strategy is right in some context, at some point, for someone, but not for everyone. Gold itself is very volatile. Gold fluctuations are sharper than equities. There are times when for 10 years, returns on gold have been zero. There are times when gold has fallen by 40% in a single year, just like stocks. If someone has earned 20% in the last year, it doesn’t mean it’s you, and it has no bearing on your future returns. No one's past returns are connected to my or your future returns. Don't buy bad companies, don't overpay. If you just follow these two rules, you will create resilient portfolios.

Vivek Ananth:Hello everyone, and welcome to another episode of Bazaar & Beyond, where we deep dive into the world of finance, investing, and more to help you make smart investment decisions. I am your host, Vivek Anant.

Our guest today is Kalpen Parekh. Mr. Parekh has been in the investment management space since 1999 with stints at ICICI Prudential, Aditya Birla Sun Life, and IDFC AMC. He is currently the MD and CEO of DSP Mutual Fund. Mr. Parekh’s focus remains on educating investors and inculcating long-term thinking and disciplined investing. Thank you, Mr. Parekh, for speaking with us today.

Vivek Ananth: I want to start with my first question. You talk a lot about panic in investing and want people to avoid panic, focusing on their goals. But do you think that over-optimism is also something that allows or prevents people from seeing risks that might be there on the horizon?

Kalpen Parekh: Yes, I have seen your conversation on Twitter and social media about how investors should have a particular frame of mind while investing,not panicking specifically in terms of the world or seeing what happens. Why do we all invest? We invest so that, over long periods of time, we are able to not just retain, but increase the purchasing power of our money. In most countries, including India, we face 10 to 12% rising prices every year in things that we consume, whether it’s education, travel, food, healthcare.

So, what we all aspire for is that whatever money we earn from our jobs and businesses, and then when we save and invest that, it should at least grow at a rate of return higher than the rate at which inflation is eating away our money. That’s at its core why we want to invest. Now, that outcome is achieved more effectively only if you really invest for decades because only over decades does the value of your initial capital compound and become multiple times.

If you have invested for 10, 20, 30, or 40 years, and in such a long period of time, generally,generally, I am using the word "not always",markets rise. Especially stock markets tend to rise if we come from a respectable, steady economy. Many economies, even over 20 years, markets give meager returns. But India has been fortunate, so over a very long period of time, we do get returns.

At the same time, every year, within the same year, stocks fluctuate by 15 to 30%. The main headline market, the Nifty itself, fluctuates by 15 to 20% intra-year from a certain peak to a certain low. There are every 4 years when markets fall by 40%. Every year, we’ve seen a 50% correction. Now, as human beings, obviously, we get very nervous when our hard-earned money loses value sharply, and we are also losing the value of our money because of inflation. But that's not seen; it's hidden. But losses in markets are not hidden; they are seen upfront.

They are seen in real time in today’s hyperactive digital world. We see losses minute by minute, second by second, because the ticker is constantly moving, so that induces a lot of panic reactions and a lot of nervousness and anxiety in our minds, which make most investors react at that moment.

There’s a beautiful line someone has said that in stock markets, all rallies are permanent, but corrections are temporary. Now, if corrections are temporary, it means that when they happen, our panic should not convert a temporary correction into a permanent correction because, in a temporary correction, if we end up selling our good investments, whether good stocks or good mutual funds that we are owning, that temporary paper loss actually gets converted into real loss, and that’s away our capital.

So, to fulfill this objective of making your money grow, remaining invested for very long periods of time is a bare minimum condition, and to ensure that we remain invested for long periods of time, what it means is that every short period of time, when there are price moves that are negative, we don’t need to react.

So, while we should be obviously optimistic about the future of any investing, and that’s the only reason why we invest in those asset classes, at the same time, we need to be also real. We should be aware that while in the long term, money is made, in the short term, money can be lost.

And whenever there are temporary price corrections, we should not overreact and not unnecessarily take any actions.

Kalpen Parekh: So, just as a heuristic, SIPs are usually considered like seatbelts for investors, so that they are investing regularly in the market and they don’t get too stressed. But what would be an equivalent, like an airbag or a fail-safe, for an investor that they should never forget? That they should always have this in their mind?

Let me first clarify, I won’t straight away jump into answering your questions, because most often a lot of our questions are wrong. Okay? Most often, our own questions come from biases in an attempt to oversimplify. You know, we all have good intent to simplify investing, but it gets oversimplified.

So, the fact that SIPs are perceived to be seatbelts is also not factual, because they are not seatbelts. If you are investing in an asset class where there’s inherent fluctuation in an asset class, 80 to 90% of stocks generally don’t make money. There are very few stocks in the whole world which make money. There’s some statistic which says that over the last 50 years, only 5% of stocks have earned more than treasury bill returns globally.

So, by default, the need to eliminate is very important, and you are investing in a volatile asset class. When you invest in a volatile asset class, whether through lump sum or through an SIP, there is no way anything can be fail-safe. There is no way anything can have airbags in the short run. Things can fall every 8 years, like I said, prices have fallen by 50-60% and eventually, they have recovered.

The largest market cap companies today in the world, like Amazon, have seen a 90% price fall many times before they became large. When they fell that much, they knew that they were going to become big because on the first 30, 40, 50%, a lot of people would have gotten out.

So, all I am trying to say is that investing, we look at the outcomes of the survivors and assume that that outcome is going to be my outcome also. When we start to invest, but in the journey, when shocks and corrections happen, we feel cheated. That’s okay. I thought this is a game of making money, but here corrections are happening, prices are falling, and my returns are down -10%. I was assuming 25%, but it’s becoming -10%. This is not for me, let me stop.

So, these types of different people behave differently. What happens is because someone else is misbehaving, someone else is misinterpreting data, someone else is reporting operational changes, you are unnecessarily changing your financial journey and destination. Hence, this number is almost irrelevant for an investor, and I just want to use this forum to say that never get excited if SIP numbers are rising; that should also not happen. Never get scared if someone else is canceling SIPs. If you have money, if your choice of asset class is right, if your choice of fund or stock is right, continue with your plan.

If you need money, take that money out. It doesn’t matter then that SIPs are growing. You are reading headlines that everyone is investing in SIPs, but if you need money, take it out. So, all I am trying to say is that investing is a personal journey. Personal finance is more personal than finance, and hence do not get distracted by anything which is so.

Vivek Ananth: Generally, people talk about mental models in investing. We hear about them in the news, in papers. I just want to understand, by changing mental models, have you ever invested? Has there been any benefit to you because of that? You know, these are very, very intelligent academic concepts. In no part of our life do we make things so complex, right? Like the application of mental models in deciding whether I should do engineering or medical or what college to choose.

We don’t bring these mental models, but in investing, whenever anyone has intelligently made one or two statements, they become part of every narrative. So, I don’t know if this is really clear-cut. I will give an example. Like if I say, 100 minus my age is my equity exposure. But what if my friend says that I have lost too much time investing because I started late, so suddenly I have to go 90%. He might take more exposure and invest in riskier stocks or risky mutual funds, but if he actually follows a model, there could be some mistakes. What is the model that 100 minus age? That’s what I am saying, that these are again very oversimplified hacks.

If someone would have said at some point in time...

Kalpen Parekh: These are again very oversimplified hacks. At some point, someone might have said this in an elegant way and it might have seemed like an Arkimedes’ principle to us. But the point I’m making is that these are oversimplified models. For example, a 100 minus age rule for equity exposure,just because it makes sense to a certain extent, doesn't mean it's the right framework. It's important to make decisions based on real needs rather than overgeneralized assumptions.

As a general thought, I would say we should avoid rigid mental models and rather tailor our financial decisions to personal circumstances,how much money you have, how much time horizon you’re working with, and your capacity to take on risk. This way, you can construct your portfolio based on your own unique situation, rather than applying a one-size-fits-all model.

Vivek Ananth: You mentioned the concept of SIPs earlier. There’s been a significant rise in SIP stoppage ratios, even though SIP amounts are increasing. Could you share your thoughts on this phenomenon and how investors should interpret it?

Kalpen Parekh: Let me first clarify that it's actually a useless metric for any investor. For you or me, does it matter if someone else stops their SIP? Most of the time, when such data is released every month, media channels ask this question, and everyone starts talking about it. But frankly speaking, it’s irrelevant.

SIP is a simple process: you have money in your account, you invest, and you buy units every month. It's an automated process. Whether the market is up or down, you keep doing it. People don’t ask how many people have stopped paying their electricity bills or their school fees, right? Similarly, it’s the same for SIPs. This whole conversation around SIP stoppages often creates unnecessary confusion.

There are different reasons why these numbers change. Some people might cancel their SIPs because their financial situation changes. Others might panic and stop investing during a market downturn. But these are operational changes that do not necessarily indicate anything about market fundamentals or investment returns.

Vivek Ananth: This really gives perspective to how some of the data points that seem significant might not actually impact an investor’s long-term journey. Moving on to the next aspect, I would like to ask about resilience in investment portfolios. How should investors build resilience in their portfolios? What asset classes would you recommend for that?

Kalpen Parekh: Over time, history, academic research, and actual data have shown that in the very long term, stocks have earning power. Stocks of good companies have earning power because good companies are able to make products and sell them at higher prices every year. If you buy stocks of companies at fair valuations and effectively become a shareholder in these companies, you’re partnering with them and earning their profits over time.

In the short term, stocks are most risky because their prices fluctuate. However, when you mix different asset classes,like equity and bonds, or even equity and gold,you get better resilience in your portfolio. This way, the portfolio has lesser fluctuations without compromising on long-term returns.

A diversified asset allocation strategy helps reduce risk. For example, in the last 18 months, stocks in India have fluctuated sharply, with corrections of 20-40%. During the same period, gold has gone up by 40%. If your portfolio had 90% in stocks and 10% in gold, when stocks fell by 30%, the gold’s 40% rise could cushion part of the loss.

Vivek Ananth: This idea of resilience through asset allocation is key to managing volatility in the market. But, how do investors balance asset classes like stocks and bonds effectively for long-term growth, especially considering the fluctuating economic landscape?

Kalpen Parekh: The key is understanding the risk and time horizon for each asset class. For example, bonds are safer in the short term because their returns are relatively stable, but in the long term, they tend not to outpace inflation, and that’s why they’re not as effective for long-term growth. On the other hand, stocks tend to offer higher returns but come with more short-term volatility.

In the long term, the value of your initial capital in stocks can compound and grow significantly, which is why stocks generally perform better than bonds and gold over long periods. However, in the short term, bonds can provide stability.

Kalpen Parekh: The trick is to balance these asset classes according to your risk appetite and time horizon. Mixing equity, bonds, and gold, for instance, can reduce the volatility of your portfolio without compromising long-term growth. Ideally, if you look at the long-term, equity should dominate the portfolio, but bonds and gold can be added for stability, especially during market downturns.

In the last 30 years, the performance of equities, bonds, and gold shows that a mixed portfolio tends to have a higher total return with less volatility than if you invested only in stocks. For example, in the last 18 months, stocks in India fell by 20-30%, but gold rose by 40%. This helped cushion part of the loss. If your portfolio was made up of 90% equities and 10% gold, your total portfolio would have fallen less compared to pure equity.

Similarly, if you had an equal allocation of stocks and bonds, the downside of stocks could be cushioned by bonds’ stability. This is the benefit of mixing assets that are less correlated, meaning they do not move in the same direction at the same time.

Vivek Ananth:
This highlights how diversification plays a role in protecting against sharp market corrections. But, moving forward, what about the concept of resilience in an investor’s mindset? How can they stay resilient mentally when markets are volatile?

Kalpen Parekh:
Resilience isn’t just about the financial structure of your portfolio. It's about your mindset. The best investors I know have a long-term view and don’t panic in the face of short-term volatility. Understanding that markets are volatile and that corrections are temporary can help you maintain your composure.

The biggest enemy of good investing is not investing at all. So, the idea is to stay invested, stay disciplined, and don’t make emotional decisions based on short-term market movements.

For example, when the market falls by 30% or 40%, it can feel like a loss, but it’s only a paper loss unless you act on it by selling. That’s when you lock in your loss. If you remain invested and let the market recover, as it historically does over the long term, you’re better off.

Vivek Ananth:
You’ve mentioned several key principles like long-term investing and staying disciplined. When it comes to choosing investments, do you think there is an ideal time to invest, or is it better to invest systematically over time, like with SIPs?

Kalpen Parekh:
It’s always tempting to time the market, but the truth is that no one can predict short-term movements. The market could be up today and down tomorrow. However, if you invest consistently over time,whether through SIPs or lump sums,you eliminate the need to time the market.

SIPs work well because they’re an automated way to invest regularly, and they take the emotion out of the decision-making process. No matter whether the market is up or down, you’re investing. This approach works over time, even when the market has corrections, because you’re buying more units when prices are low.

Vivek Ananth:
That’s a very interesting perspective. Moving on, how do you see the narrative that "we will never lose money in the stock market"?

Kalpen Parekh:
That "we will never lose money in the stock market" is a big narrative that will be broken in the next 10 years. The fact that SIPs are perceived to be seatbelts is also not factual because they are not seatbelts. SIPs do not protect you from market fluctuations, they are just a way to invest regularly, so you don’t need to worry about timing the market. The largest market cap companies today in the world, like Amazon, have seen a 90% price fall many times before they became large. The biggest enemy of good investing is not investing at all.

Prices are low; never get excited if SIP numbers are rising. That should not happen. Never get scared if someone else is canceling their SIPs. Everyone's line model is right in some context at some point for someone, not for everyone.

Vivek Ananth:
You’ve touched on the idea that SIPs and the stock market are not immune to corrections. Many people believe that gold is a safer investment compared to stocks. What’s your take on that?

Kalpen Parekh:
Gold itself is very volatile. Gold fluctuations are sharper than equities. There are times when for 10 years, returns on gold have been zero. There are also times when gold has fallen by 40% in a single year, just like stocks. If someone has earned 20% in the last year, it means someone else, not you, and it has no bearing on your future returns. No one's past returns are connected with your future returns. Don’t buy bad companies, don’t overpay. If you just follow these two rules, you will create resilient portfolios.

Vivek Ananth:
So, it’s clear that both stocks and gold come with their own risks and rewards. When we talk about long-term investing, how do we stay disciplined through market ups and downs?

Kalpen Parekh:
Staying disciplined requires patience and consistency. In the short term, there will always be volatility. But if you have a long-term view, you can ride out the short-term fluctuations. The key is to focus on the process rather than the short-term outcomes. As long as you are investing in good assets and sticking to your plan, you will create wealth over time.

Vivek Ananth:
Before we wrap up, I’d like to ask a final question. For many new investors, there's a lot of noise in the market. What advice do you have for someone just starting their investment journey?

Kalpen Parekh:
My advice to new investors is to first understand your financial goals. Invest for the long term, stay disciplined, and avoid getting caught up in short-term market movements. Invest regularly, whether through SIPs or lump sum, and don’t try to time the market. Focus on quality investments, and don’t overpay for assets. Avoid following the crowd and focus on your own financial plan.

The key is to build a portfolio that suits your personal risk tolerance and time horizon. Remember, investing is a long-term journey, and as long as you stay focused and follow sound investment principles, you’ll do well.

Vivek Ananth:
Thank you so much, Mr. Parekh, for sharing such insightful thoughts with us today. This was truly a valuable conversation for both new and experienced investors alike.

Thank you to our listeners as well for joining us today. Stay tuned for more conversations on Bazaar & Beyond, and remember to invest wisely.