Tuesday, April 16, 2013


(FOR the first part go to :http://frustrationsamalgamated.blogspot.in/2013/03/from-savings-to-investment-financial.html) Having started off on our ‘savings’ plan, let us understand what kind of savings instruments one can use and for what purpose, duration etc. i) Savings accounts in banks- Keep enough to tackle a month’s outgo and some emergency needs depending on your situation. You can always keep a ‘sweep’ account that ensures highest return: ii) Liquid funds are good if you need money in two to three years time; iii) Fixed deposits and bonds are good if you need the money after three to five years; iv) FMPs of mutual funds are a better option than fixed deposits from safety as well as tax impact is concerned; v) Savings instruments will never be subject to market risks. Yes the can have risk of default, so better not to chase high returns and sacrifice on risk. vi) Savings has to be in a form that you completely understand. Cannot be an insurance policy or ULIP. I have a different take on financial planning. I ask each of you to write down what you earn now and what can be spared for savings and investments. From there, one can take a call on what is achievable and what is not. There is no point first saying that this is what I need and then go about finding the money. It may click once in a way, but more often, you will end up taking risks that you can ill afford to. For example, if I can spare, say, five thousand rupees a month for two years, it could accumulate to around Rs.1.40 lakh at approximately eight percent per annum. So, I can plan to spend around 1.40 lakh at that point in time. However, if I decide first that I want to spend around Rs.2 lakh at the end of two years and cannot spare more than 5K each month it would need a return of more than 15% p.a.! So I would have to search for something with that kind of potential. Alas, there will be only uncertain avenues that risk losing principal also. In short, first decide what you can spare and fix your aspirations in the realm of possible. Do not get carried away by the crazy advertisements that drive you to aspire for the moon and then choose a road that will destroy your wealth and health. All other schemes are ‘investments’. Returns would be unpredictable and will have risks attached to them, with the potential of higher returns. It is common to say that equities deliver fifteen percent compound returns. However, in the last five years, it has delivered zero. You cannot plan to meet a certain financial outlay with any ‘investment’- whether it be equities, land or gold or anything else. They are subject to factors beyond your control. After the savings plan, I would surely look at ‘spending’ money on some medical insurance. Life insurance is something that you need so long as you have commitments or financial dependents. Once you cross that hurdle, stop the policy. Today, a term policy with payout only on death, costs less than medical insurance. Do not fall in to the trap of thinking that there has to be a ‘return’ from a life insurance payout. There are better investment options available. Investments are financial outlays, where the final result is not predictable in terms of value. It is subject to market forces and business cycles. The outlays could be on equities, real estate, precious metals or commodities or currencies. These do not trade at predictable prices and there is no guaranteed return. Once these are covered, you might like to start ‘investing’. For equities, mutual funds (go for either large cap diversified or an index fund) are a good option. To get the best out of equities, it is important to keep investing regularly and not just in one go. Of course, that strategy can work, if you are capable of picking stocks at their lows or are able to time the markets. If you cannot, then the SIP route is the best. One more thing to invest could be a second house or a plot of land, depending on each one’s appetite. I have covered this in one of my earlier pieces. Investments are financial outlays that over time can give you a chance to change your lifestyle or leave behind an inheritance. Investments over time can give you a new goal or a desire to be fulfilled. Investments go to build wealth. A second home, a plot of land, stocks, gold etc. are not things you buy to meet some future goals, but to create your portfolio of wealth. Once you get here, your concerns are more towards preservation of wealth than rapid appreciation. Do not be in a hurry to acquire assets for wealth creation. Savings simply takes care of your normal needs over your lifespan. So, savings are the first step. Savings will take you to a goal with reasonable degree of certainty. Investments will change your state of well being.

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