Monday, December 30, 2013

Putting all your eggs in one basket

This article was first published in the Hindu Businessline, Investment World, December 30, 2013; Co-Author: Lokesh Kumar, ISB.

One of the most famous proverbs in the financial world is, “Don’t put all your eggs in one basket”. The idea behind diversification is risk reduction by investing in a variety of assets.
Conventional theory also says that risk and return are proportional to each other. Diversification results in the reduction of risk, but returns also reduce.
John Maynard Keynes, the father of modern macroeconomics, held quite different views. Keynes believed that investing in a few stocks gives much better returns than diversification and his faith in portfolio concentration rewarded him far with superior returns than a widely diversified market portfolio. In his view, an investor who knows something about the market can get better returns by holding few stocks rather than a variety of assets.
Keynes also argued that a concentrated portfolio would be less risky than a diversified portfolio because the investor could undertake due diligence of stocks if his portfolio is limited and would typically invest within his circle of competence.
“As time goes on, I get more and more convinced that the right method in investment is to put fairly large sums into enterprises which one thinks one knows something about and in the management of which one thoroughly believes. It is a mistake to think that one limits one’s risk by spreading too much between enterprises about which one knows little and has no reason for special confidence,” said Keynes.
In a way, Keynes was emulating the idea of specialisation propagated by Adam Smith — the father of economics — who believed that breaking down a large job into many small jobs makes each employee an expert in one isolated area of production and thus improves productivity, which leads to higher economic growth.
Expansion of a portfolio beyond a certain number of stocks dampens performance because one loses the ability to effectively monitor the holdings. Keynes once said, “To carry one’s eggs in a great number of baskets, without having time or opportunity to discover how many have holes in the bottom, is the surest way of increasing risk and loss.”
In a research paper by Professors Zoran Ivkovi´c, Clemens Sialm and Scott Weisbenner, Portfolio Concentration and the Performance of Individual Investors published in the Journal of Financial and Quantitative Analysis in 2008, the authors show that investments made by households with concentrated portfolios outperformed those with diversified portfolios. The results indicate that households with concentrated portfolios evolve the ability to identify stocks that give higher returns.
A few other advantages of a concentrated portfolio are lower transaction costs and potentially lower monitoring costs. In comparison to a diversified portfolio holder, the concentrated portfolio holder has the fear of loss and that fear influences him to rigorously scrutinise companies before picking a stock.
For people who do not have risk appetite, or do not understand the business of the company in which they are investing, it is best to diversify.
Most fund managers invest in diversified portfolios as their customers may not have the ability to take a large loss. But those who have the risk-taking ability and appetite, besides the expertise to identify good stocks, might want to try their hands at concentration!

Saturday, December 28, 2013

Massive open online courses may be a mere flash in the pan

This article was first published in on December 28, 2013; Co-author: Sanjay Fuloria (Cognizant Research Centre)
Are Massive Open Online Courses (MOOCs) here to stay? Well, no one really knows. They are the new buzz on the education circuit and top universities are rallying to get a share of the pie. Though there is definite merit in learning from a professor and fellow students in a physical classroom, the business of education would flourish by roping in more and more students, and in this respect the traditional channel has certain limitations which the online channel does not. With starkly different learning impacts and revenue models, one must be candid in saying that this alternative method cannot be considered a replacement for the traditional method. At best, it can play a complementary role. However, factors that impact its sustainability and longevity are yet to be understood or managed. 

Started by reputed institutions with the aim to democratize education, Coursera, edX and Udacity are the pioneers in the area of online education. While MOOCs have come into existence only since 2011, each of the three institutions offer staggering 500 courses on an average. The courses are 3 to 17 weeks in length and have 30000 to 40000 students in each course on an average. The highest number of registrations for a popular course has been as high as 240,000. Average completion rate for the courses remain low at 10%.

Most of these are run by the star, mostly tenured, professors of elite institutions. Currently these courses are mostly free as they are subsidized by universities and venture capitalists (VCs). For example, edX and Coursera received $60 million and $16 million respectively from the VCs in the last two years. Eventually, when a successful revenue model is developed, these professors would be well positioned to mint money.

A fact that cannot be refuted is that the learning that happens in a classroom environment within an institution cannot be equaled in an online scenario. Peer group interactions and time spent with professors outside the classroom contribute towards a well-rounded personality. Campus life also promises a great opportunity to start business ventures in collaboration with peers. This kind of collaboration and networking is almost impossible to develop while being co-participants or co-learners in an online course. Whatever be the number of chat rooms created during an online course, who does business with a social network friend, especially if they have never met? Moreover, university is the platform where students assimilate different cultures, languages and cuisines, all of which make them truly global citizens. Globally, between 2010 and 2012, 6.7 million online course enrollments concluded in mere 670,000 completions. Though we do not know the usefulness of the courses for those who completed them, we do know that experiments have found that only 50 percent of credit-seeking students passed an online course as compared to 75 percent of students who undertook the regular course in a classroom. So why waste VC money on comparatively ineffectual online courses? This money could well be used in creating new institutes of higher learning or in creating branches of existing reputed institutes. That would ensure accessibility to good education. Turning to greener pastures, MOOCs plan to tap into the lucrative executive education market. Though online courses reduce cost to company, employees scorn on them as these reduce their time off from the job, travel and networking opportunities- aspects on which the physical classroom scores. Even short training programs arranged by the employers are attractive as they provide an opportunity for face to face interaction.

One of the biggest pluses of MOOCs, however, is their reach and in that they can complement regular brick and mortar courses. A university can expand the reach of its unique classroom courses, taught by a handful of experts worldwide, by opting for the online channel. In the field of executive education, especially for new hires, MOOCs can act as a post training module. Thus, if used innovatively, MOOCs can co-exist with the regular classroom training, especially because they are more cost-effective than their traditional counterparts.

If learning impact is one concern with regard to MOOCs then untenable revenue models is another. There is an eerie resemblance between MOOCs and the dotcom companies of the 1990s. The dotcom companies based their valuations on the number of eyeballs and clicks, which fetched them huge investments from venture capitalists. Similarly, MOOCs seem to be after number of enrollments. Dotcoms did not have a solid revenue model in place, which is the case with the MOOCs of today. They are toying with a multitude of options for getting their revenue much earlier in their lifecycle than dotcoms, however they need to get their revenue model right. Several profitability ideas are being brainstormed in the online education circles. These range from charging a nominal fee for giving a course completion certificate to charging users for complements offered by the online education providers to charging recruiters who hire students of an online course. However, all these ideas need to be tested and until there are signs of profitability, the fate of MOOCs remains uncertain.