Since our update in January 2022, the war in Ukraine and inflation have taken centre stage for all investors. With its terrible human tragedy, the former, for many commentators, is a watershed in human history. The war has broken decades of peace in Europe and raised several difficult questions for the current world order. The geopolitical imperatives will have implications for global, regional and country-level growth. For India, which has a relatively large domestic economy, the immediate economic impact will be from higher oil prices. The common Indian has already experienced a rise in fuel prices. More generally, the elevated oil price will fuel inflation and, possibly, lower economic growth. Inflation in India is higher relative to the last few years. And inflation is where we see the largest risk for investors and savers.
From our comments in January 2022, the risks of “higher for longer” inflation have increased, and we have lowered our expectations of India’s economic growth over the next 3-5 years. Against this backdrop, we retain our long term expectations of returns and risks for our asset classes. The elevated valuations for equities imply that forward return expectations should be lower. The higher inflation risks have a more direct impact on the fixed income complex. We have retained our long-term returns and fixed-income risks but would caution investors with a short-term investment horizon to be more circumspect. Inflation is going to reduce real returns across all asset classes. Inflation above 7.5% would result in negative expected real returns for Cash & Cash Equivalents, pure Fixed Income and, possibly, even Commodities. Consult your financial advisor and review your portfolio against your financial objectives.
Table 1: Risk Return Long Term Expectations
Note: We use a broad sample of instruments accessible to retail investors such as mutual funds and ETFs to compute the pre-tax total returns. Each asset class is a collection of individual instruments. For instance, Cash and Cash Equivalents includes Fixed Deposits as well as Liquid Funds. Data is over a long time period, and we overlay historical returns with future expectations of the returns to arrive at the expectations. Our time horizon of expectation is 5-7 years. An investor cannot invest directly in the asset class. They are shown for illustrative purposes only and do not represent the performance of any specific investment. Assert class returns do not include any expenses, fees, transaction costs or sales charges, which would lower performance. For illustrative purposes only. Past performance is no guarantee of future results. Real results may vary.
If there was one take-away it is this: expectations of forward returns should be lowered. The additional volatility can go either way, and while our long-term return expectations do not change, the additional volatility points to increased risk in portfolios.
Our long-term expectations of returns and risk serves as the basis for building the baseline “desired zone” of expected Return and Risk for different risk profiles in the Qfinr app. Our approach generates over 3 million portfolios of varying allocations to the 5 asset classes from which we select risk-return trajectories for each of our 5 risk profiles.
For a medium term investment time horizon (3-5 years), the asset allocation that investors could consider:
Table 2 : Asset Allocation Ranges
In Qfinr, users can compare the expected returns and risk characteristics of their portfolios against ‘ideal’ portfolios. This analysis can be a useful input for discussions with their financial advisors.
If you would like to know more about historical returns of asset classes in India read ‘Historical Nominal and Real Asset Returns in India’. Our team has also published a paper on the current high valuations in the equity markets and the forward returns titled ‘Shiller’s CAPE and Forward Real Returns in India’ that might be of interest.
Qfinr is not a financial product advisory service and does not provide any financial product advice specific to your circumstances. We provide numeric information only based on data entered by the user and/or data otherwise available to us and the output presented is derived from that information as a result of calculations using our methodology. This output is not a recommendation nor is it a statement of opinion. It is not a solicitation or attempt to effect transactions in securities or the rendering of personalized investment advice. As such, the information should not be construed as being personalised financial, investment or professional advice, nor should be deemed to constitute as an offer or provision of such advice.