RETURNS

Almost every person we meet on our calls invariably asks us, “Should I invest in scheme X because it has given the highest return over the last 6months or 1year? Should we invest in scheme Y because it is the best performing fund in its category? People also chide us --being a CA and CFP^CM --- for not being able to devise a strategy to earn 20-30% monthly returns from F&O segment of the NSE (since we also provide secondary market services). We have also witnessed clients redeeming their NFO investments just because it has not provided great returns within a year of opening for subscription!

It’s high time you ask yourself: - Why do you invest?

Is it just to earn money (returns)? If that be so, then I think most of us are doing pretty good job at the activity that we are presently doing, be it job or business!!

Or is it to meet your life’s goals? That too within the time frame. Goals like

·         Children’s education

·         Children’s marriage

·         Creating a corpus for your retirement

·      Or any other goal which you feel is important for you (may be a foreign vacation with family)

Making money cannot be the end in itself. What is that you intend to do with that money? Making lots of money without any specific goal/purpose is like boarding a train not knowing the destination.  So money has to enable you to fulfill some goals. It is only an enabler.

What are your goals, rather ask yourself: - “Do I have a goal?”

We all have some goals in life. Whether it is buying a second house, or daughter’s marriage, or creating a corpus for your retirement etc. In order to meet these goals, you should invest. Hence, instead of searching for investments which will give you highest returns, you should be asking yourself what is the optimum (and not maximum) rate of return (inflation adjusted) which the proposed investment expected to deliver and which will help me meet my goal within the required time frame.”

This brings us to another question: - Is “rate of return” the right term that will help me in achieving my goals? NO.

By “rate of return” we usually refer to the nominal rate. You also have to factor inflation. Inflation adjusted or real rate of return is what should be guiding us to our goals. For example, if your bank deposit is giving 9% interest for 1 year, and if average inflation that year was 10%, then your real rate of return is (-)1.81%--YOU ARE LOSING MONEY RATHER THAN MAKING ANY. 

Having identified a goal and initiating investment to meet the goal, would you be too disturbed if your MF investments returned say 18% and your friends MF investment returned say 30%? However, since you have been advised that to accumulate Rs. 1 crore for your daughters marriage, you need to invest Rs. 8000 p.m. for 25% at 10% pa CAGR—you will not be too disturbed by the relative underperformance of your MF investment—as it is still above your required rate of return. It’s just like Sachin Tendulkar getting out after scoring say only 25 runs. His overall run-rate is still much higher.

Your goals and required rate of return to achieve the goal should be the benchmark. If on the other hand, you had made the investment without any specific goal, then the only benchmark will be your friend’s investment –and you will in all likelihood switch out to your friends’ scheme on the basis of past performance knowing fully well that past performance may or may not be repeated in future.

Rather than looking for returns in 6 month or 1 year category, it is always advisable to look for 3-5 year returns.  Relative underperformance in the former category should not be a cause of worry if the fund has otherwise delivered better returns over the long term.

It’s time you looked beyond returns.—(read our earlier article here)

I’M A FINANCIAL PLANNER, TOO!

Recently, a private life insurance company launched a media campaign offering to financial planning services for free for everybody. Out of curiosity, I enrolled for the service. To my utter astonishment, I was briefed about a product over telephone call that I had got to fix up an appointment with a company representative. I went ahead with the appointment anyway. The company representative that called on me, asked for my date of birth, my monthly income, and my preferred choice for life insurance. AND BEHOLD, the financial plan was ready! Based on my income, I was suggested to subscribe to the child plan of the company (although my preferred choice for life insurance was term assurance). It took no more than 10 minutes for the advisor to make the so called financial plan---consisting of an insurance plan ONLY.

Gone are the days, when people were mis-sold a particular investment/insurance product. With Regulators getting strict on the financial advisory front with focus on financial literacy of consumers, product sellers are increasingly adopting Financial Planning concept to push products. Mutual fund companies, banks, insurance companies are coming up with new software, forms etc. which capture specific financial data of the consumer and present a target amount for the consumer’s goal and the investment that the consumer has to make to meet the said goal. This is the financial plan for the consumer.

Spreading financial literacy can and will prove costly for such insurance, mutual fund companies and they are aware of this hard fact. Hence, they have started to adopt increasingly popular concept of financial planning to meet their sales targets by pushing products. Since there is no bar on using the words Financial Planner besides your name, even insurance or mutual fund agents can call themselves financial planners.

So if financial planning is not buying only either an insurance policy or a mutual fund schemes, then what is financial planning all about?

--Financial Planning is about managing your finances in such a way, that you can achieve your            life’s goals comfortably. Income and Investments are just one aspect of a financial plan. It also factors in your liabilities and expenses. Financial planning is a road to financial nirvanaa, a process and not an end in itself.

--Check whether the financial advisor follows the steps laid down by Financial Planning Standards Board, India (FPSB) viz; gathering data, setting life’s goals, examining your current financial status and suggesting a strategy to meet them. 

--There should be a formal client engagement letter at the beginning of the relationship which sets out terms and conditions for both the planner as well as the consumer.

--A financial planner should look at your cash flow in detail. He should be able to portray the correct financial position and recommend solutions that are in your interest. Recommendations should not cover only insurance or investment products but encompass other aspect of your financial position like debt management, tax, and retirement planning etc. also.

--Financial planning is not a one-time activity. Financial position, requirements, family position keep on changing and your financial plan should be regularly re-visited to keep it in sync with your current financial position and future goals.

Financial planning is not one-size fits all plan/process. It is a customized to every person’s needs and financial position.  However, more often than not, in order to get quick solutions at lowest or better still no cost at all, people fall for the trap laid out by product pushers in guise of financial planners and end up buying product rather than getting a solution to their requirements.  After all it’s your hard earned money that is involved here and so do your children’s education and your retirement. BEWARE of the so called financial planners!

Is health insurance taken to protect wealth?

What if we say that by subscribing to a health insurance plan, you are actually protecting your wealth!

There is no such health insurance plan which can protect your health. Health can be protected only by following a proper diet and exercise regimen.

 Actually when you buy a health insurance, all that you are doing is buying a protection against those situations which demand big amount of hard cash at very short notice towards medical expenses. So rather than treat it as an expense (hence, best avoidable), it’s time that you look at it as an investment towards your wealth protection—since health care expenses have become costly.

The most common notion amongst investors we’ve interacted with is that a life and health insurance are sunken cost- and hence avoided. The logic is that they believe they are not going to suffer any eventuality and that they are not going to fall seriously ill. It’s human nature after all.

In a particular financial plan that we were making for one of our clients, we had suggested subscribing to health insurance of Rs. 10 lacs. The suggestion was summarily rejected by the client. He was adamant about not buying health insurance citing very high premium and since he was quite healthy, he believed that he was not going to be sick!

Since as a financial planner, it is our job to recommend what is good for the client, we told him that by not buying health insurance, he does not want insurance company to pay for his medical  bills should the situation arise. As a corollary, he is prepared to bear the entire cost of his medical treatment –be it Rs.5 lacs, or 15 lacs or even say Rs. 30 lacs(after 10-15 years).

People fail to realize that probability of medical eventuality raises many folds with increasing age. At that time, the wealth that has been so painstakingly accumulated is needed for life’s other milestone payments—viz; your daughter’s marriage. To divert that wealth towards your medical expenses would be unfair to your daughter. A protective shield in the form of medical insurance can be very useful.

Moreover, with medical re-imbursements having been made subject to a ceiling, meeting a part of cost is better than meeting the entire expenses.

So can we suggest that if you love your wealth, better buy health and term insurance first and then go about wealth accumulation.

So protecting wealth is much easier than protecting health!

Q.E.D. (Latin for Quod Erat Demonstrandum)     

Wealth= Income or Savings?

 It is more likely that a person earning more is looked upon as being wealthy. It is assumed that a person who earns more also saves more. But, you know nothing can be more far from truth than this.

Say Ajay earns a salary of Rs. 1 lac per month, while his friend Ayaaz earns a monthly salary of Rs. 40000. Ajay would in all likelihood be perceived to be wealthier.

So what makes you wealthy—income or savings?

In absence of their monthly expenses, it would be difficult to arrive at any definite answer. If Ajay were to spend say Rs. 80000 and thus save Rs. 20000. Ayaz was also able to save an equivalent amount.

The real factor to determine wealth is savings and not income. How much you save(and invest) before you spend rather that saving what is left after you spend will be the single most important factor that will determine whether you will be able to create wealth in the long term or not!

It’s time we ask ourselves: - are we rich just by high income (or salary) level or are we really rich by savings (and therefore judicious investing)? If you are able to answer this then you stand a pretty good chance of enjoying your retirement, else you would be scratching your head during your retirement trying to figure out what went wrong?

A high level of income during the working life usually gives us a false sense of security into thinking that current situation will be constant forever. Home loans, more home loans, personal loans, vehicle loans, credit card dues are forms of classic wealth destroyers, which is pushed down your throats by your banker—with your consent of course.

For example, people are tempted to take a second home loan thinking that since they are creating an asset, it is prudent to take a 2^nd.  Home loan. While the argument may be true for the home loan for your first dream home, using the same argument second time may not hold true. Indian Income Tax Act, levy a tax on Income from House property for your 2^nd. home. Home loans deprive you of creating your retirement nest. Real estate is not the only asset class that delivers returns—in a tax efficient manner.

Asset classes like equities have delivered far greater returns over long term—and that too in a tax friendly manner. (Read--Discipline--Key to equity investing).

Do ask yourself once in a while: - Am I living off my current cash flows? If the answer from within comes as a yes, then it is time to tweak your actions. Rather than buy that home theatre system that you’ve wanted to buy for a long time, better subscribe to a long term SIP.

After all, financial security is one thing you owe it to you and your family.

5 things to do with your money

There are individuals who have so much money that they don’t really know what to do with it. While these individuals may attract the envy of many, we believe owning money and not knowing what to do can be quite an unenviable situation. On the other hand, there are small time investors, who don’t own a great deal of surplus money, but are in complete control of their finances. These individuals seem to be in the driver’s seat where finances are concerned and should in fact be envied.

While most would find it a little to digest that there are investors out there who have the money but don’t know what to do with it that is the truth. Don’t believe us, look around and see the number of people with the latest gizmos, mobiles, cars, clothes and consumer goods. What’s wrong with that? Nothing at all! It’s a free world and you can own anything and everything that your finances permit you. Do this small test – when you see someone flashing his latest mobile or some gizmo, ask him if he has planned for his retirement, or whether he has a financial plan in place to pay for his child’s college fees 10 years down the line. Chances are that person will be more keen on discussing ‘relevant’ points like the features of his latest mobile rather than dwell on the ‘irrelevant’ issues raised by you.

To be sure, these issues are anything but irrelevant. But money has that effect on people, it makes them want to rush towards the immediate and ignore the future. So you have more mobiles being bought than financial plans being prepared. So while it’s a good thing to have money, it’s equally important to know what to do with it. We list 5 most critical tasks individuals must accomplish with their money.

1.       Do your Tax Planning

If you are liable to pay tax, tie up your tax planning exercise. As a law-abiding citizen paying taxes is most important so investing promptly in the right avenues to save tax assumes importance. An individual can save tax up to Rs 100,000 (Rs 1 lac) by investing in tax-saving investment avenues. These avenues range from the traditional Public Provident Fund (PPF), National Saving Certificate (NSC) and life insurance to the more dynamic (read market-linked) tax saving mutual funds (Equity Linked Saving Schemes - (ELSS)). These avenues not only help in tax planning but if selected well can also help individuals achieve their long-term financial goals.

2.       Plan for your retirement NOW

A common regret for most of us in our twilight years (apart from not having exercised enough) is our poor savings and investment track record. Most individuals wish they had saved either better or more. Planning for retirement is one thing that individuals across age groups must take up on priority. Of course, if you start at an early stage it’s even better, but the fact is it’s never too late to set aside some money for retirement.What makes retirement planning so important for us to list it second in our ‘to do’ list? To answer that question in a single word – inflation. Inflation is what usually leads to a rise in prices of goods and services. If you are wondering why oil, the gas cylinder, toothpaste, eggs and even idly sambhaar costs a lot more today, than what it used to even 5 years ago, blame it on inflation. So planning earlier on in your life is a solution. Calculations show that even a 5-year delay in investing (Rs 10,000 annually at 10%) can make a substantial difference (as high as 60%) to your retirement corpus.

3.       Get yourself insured

Life today has become a lot more uncertain than ever before. Therefore, taking life insurance is another objective that should rank high in the priority list of all individuals. Simply put, the purpose of life insurance is to indemnify the nominees/dependents of the insured against an eventuality. So life insurance must form an integral part of the individual’s financial planning exercise. In addition to life insurance, individuals should also be equipped with adequate medical insurance. Note that we haven’t mentioned life insurance while discussing tax planning in an earlier point. This is because it’s time insurance got its due as an independent entity unlinked to anything but your life. Our advice is don’t mix the two; don’t chase tax benefits while taking a life cover, let alone returns.

4.       Prepare yourself for contingencies

Contingencies/emergencies never announce their arrival. But that does not mean we close our minds to the possibility of their intrusion in our lives. As always, the best way to deal with such a situation is to provide for it well in advance. Such situations could possibly arise out of an accident/operation that is either not covered by mediclaim or exceeds the mediclaim limit or it could be another expense that you have provided for (like a buying a house) which actually falls short at the time of purchase. At times like these, having a contingency fund can prove to be a boon. How do you know how much to save for contingencies? While there is no formula for the same, having 10%-15% of your entire portfolio in low risk investments should arm you adequately during a contingency.

5.       Get Professional help

We go to a doctor when we fall sick. We go to a Chartered Accountant for tax advisory services. Why? Simply because they are experts in their respective fields. Similarly, we should seek out the services of a Financial Planner to help us realize our long term financial goals. We may be prone to bias if we try to do it ourselves. Your children’s’ education/marriage or for that matter your retirement corpus is too important to be left to chance, or government.

Way Forward

Legendary investment guru Peter Lynch once said “ I've found that when market’s going down and you buy funds wisely, at some point in future, you will be happy. You won’t get there by reading “Now is the time to buy. These things never go off that way.”

The atmosphere is one of gloom and doom. No one you meet today at gatherings ever gets to talk about the markets.  Just like equities have become pariahs for investors. Inflation does not come down, high interest rates hurting businesses, fiscal imbalance of Eurozone (and in India) does not improve etc. are some news reports which do not alarm anybody.

Now is possibly the most stressful situation that Indian equity investors have ever faced. Not only is the equity faring badly, but the overall business environment is also not too encouraging. The pessimistic outlook about the market is overplaying itself. The period 2008-2011 is the most forgettable period and everyone who has some market related investment knows very well what they have lost and would like to put that behind them as soon as possible. Our effort at representing the pain through some numbers will be neither interesting nor useful.

Unfortunately many people including those so called experts who dish out market strategy on a daily basis---see as many problems looking forward as they do when they look backward. This is not the first crash that we are witnessing right now. Sensex has seen several bear phases since 1986. The current scenario appears depressing since we look at it through the narrow sphere of 1, 2, 5 years. Apply the concept of rolling returns to the economic conditions of India. Take any 10 year period over the last 60 years and compare the situation in the beginning with that at the end. Were things better in 1990 or 2000? The answer is obvious—the latter. 2000 or 2010? The answer is the same every time. When you stand back and take a 10-year perspective the growth in the economy will be apparent. For example between 2005-2010 the Indian economy doubled in size. This growth has trickle-down effect on every constituent of the economy. This is also evident from the demand for real estate and cars that is seen at the ground level. In short the economy never regresses during any 10 year period.

I think it’s now time to be a little contrarian and give a re-look to equity. For long term investors the market slump like the present one (though not the first one) is an opportunity to buy. The India story is too strong to be crippled by external turbulence or incompetent political leadership (ironically though headed by a person who ushered economic liberalization) internally—but that’s a different story altogether.

Just as a high tide lifts all the boats, the reverse is also true in investments. If a booming market lifts all boats, then a receding tide sinks all boats. The atmosphere of gloom and doom has been around for quite a long time now. An economy growing at 6%+ rate is bound to reflect in stock prices sooner rather than later. So the worst thing an investor can do at this juncture is to focus on the short term volatility and not buy into the reasonably cheap valuations—because you are not going to receive a “tip” to go out and buy. For the long-term investor, equity is not good despite the occasional crash. It's good precisely because it crashes!

Health Insurance--A Necessity

Watched Satyamev Jayate episode on state of healthcare in India today (27/05/2012). One of the issues which attracted lot of sound bites was high cost incurred on medical treatment today. One study estimates demand for healthcare to be increasing at a rate of 25% a year. This demand coupled with growing middle class and rise in cost of medical treatment raises the costs of medical treatment even further.

With a rise in lifestyle diseases and high healthcare costs, lack of adequate health insurance coverage can severely impact not only your finances, but can also derail achievement of your financial goals.

However, it is sad that the concept of adequate health insurance is still missing in India. Cost of medical insurance is usually treated as sunk costs and hence low priority is accorded to it. Further we usually do not want to believe that we will be facing a medical emergency ever—until we face it.

The most popular personal medical insurance—Mediclaim-- are-imbursement medical insurance policy offered by private & public sector insurance companies. While the maximum coverage offered by public sector mediclaim insurance companies is Rs. 5 lacs, private companies offer a higher coverage.  Health insurance is a hospitalization cover where the actual medical expenses are reimbursed subject to overall limits as set by companies. This is termed as individual health insurance.

Where the entire family is covered under a single insurance policy is called Family Floater Policy. The logic of such a policy—which is cheaper than individual cover-- is that all the family members are less likely to fall sick together. This results in higher coverage for the family member who may need the coverage in any eventuality.

Another type of medical insurance (it is a rider benefit) which is available is called Critical Care Insurance. This is a replacement type of insurance rather than re-imbursement. Under such a policy the entire sum assured is paid on diagnosis of a specified disease---irrespective of actual expenses incurred. Critical illness like

·         Kidney Failure

·         Cancer

·         Stroke

·         Heart Attack

·         Major organ transplant (as a recipient)

·         Coronary Artery Bypass Graft Surgery

The above is not exhaustive and the list of critical illness may vary from company to company.

For salaried individuals, where employer normally subscribes to a group insurance plan for the benefit of employees, and non-salaried people the critical care policies—if subscribed by them-- can be a blessing in disguise. In such cases, while mediclaim takes care of actual medical expenses, payment of the guaranteed sum assured ensures that the family finances are not disturbed and the person can meet his life’s goals.

However, one of the basic flaws in medical insurance policies is that your cover mostly expires at age 65—the period when you are most likely to fall ill.

So does it mean that post retirement, meeting medical expenses should be left to chance, or should it be met out of your retirement fund?

The answer is big no! You can make your own health insurance by investing a small sum every month till you retire. (Goal based planning)The fund so accumulated can fund your medical treatment even when you do not have the security of medical insurance. For example if you invest Rs. 1000 per month(less than the cost of a movie at multiplex) in a Monthly Income Plan(MIP) of a mutual fund religiously for say 40 years (typical working life) @ 8%, then you would have accumulated close to Rs.35,14,280—a decent fund to meet medical exigencies.

Medical emergencies do not announce their arrival. Make sure you are prepared for it--TODAY!