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Lump Sum Equity Investing – The Capital Protection Way Part II

Long ago, here I posted how I would go about investing a sizable amount in equity index funds. I assumed in this blog that for next 5 years, equity markets will enter their worst phase and deliver poor returns – in fact negative returns of 10% annualized for next 5 years. Such a bad phase would result in equity fund corpus down by nearly 41% in absolute terms.

Have the equity markets done that bad historically? Not at all. The worst case 5 year equity markets performance, basis Nifty 500 Index TRI has been in covid times @ minus 1.4% annualized for March 2015 – March 2020 period. Essentially, our assumption of minus 10% annualized ROI for 5 years was way too bad than actual worse case seen.

Let us redo the numbers basis some realistic data:

-          Actual worst case 5 year CAGR seen:  Minus 1.4%

-          Assuming things can go even worse than this sometime in future, we consider double of this number, which is minus 2.8%

-          And then, as this is index performance, any index fund will have some tracking error. Let’s add another 1% to this. Our worst case 5 year CAGR becomes minus 3.8%

-          Post tax fixed rate instrument return which I can lock in as of now comes to, say 5%

A 61% equity and 39% fixed rate investment allocation will still result in keeping my capital protected by the end of 5 year horizon. While equity part of the portfolio losses nearly 18% of the capital at the end of 5 years, fixed rate part of investment gains nearly 28%, thus cushioning fall from equity allocation. I don’t make money, but I don’t lose any part of my capital also, which really is the risk in equity investing in short term. Off course, if equity markets deliver 12% CAGR over a period of next 5 years, my portfolio CAGR will come to nearly 9.5%. Mind you, with nearly 40% socked away in safe fixed rate investments.

While the numbers in both the blogs very clearly establish the benefits of sizeable equity allocation immediately in case you have to invest some lump sum capital, practically it is very difficult to actually deploy really large amount of capital in equities at one go. To make it more palatable, here’s how I will go about it:

-          Deploy anywhere from 10% to 25% of capital immediately into equity index funds, latter preferred if my equity allocation basis my overall net worth is on the lower side

-          Raise equity allocation to at least 50% and preferably to 60% in a year. I can even go higher if I want to go for an aggressive play and the markets are not trending very high

 

With at least 50% of the sizeable corpus deployed in equity funds, I get a reasonable shot at the upside of equity markets. Now I can take my time in deploying balance 50%. Maybe I would look at how the markets are behaving and build myself a contrarian plan for investing rest of the corpus. Yes, some would say I am engaging in timing. Well, anything which enhances my staying power. Ohh, another piece of interesting information: 60% equity - 40% bond allocation is the most popular portfolio in developed countries, especially the United States.

But hey, don’t take the points mentioned here as investment advise. Do your own research and take your own decisions.

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