2013 managing personal finance

Personal FinanceIs it possible to pre-plan and manage it efficiently ?

RAM KUMAR KAKANI

LBSNAA MUSSOORIE

Why are personal finances important?

�Absence/ shortage of money can lead to an acute sense of

insecurity

� It can be a tremendous distraction from our normal work

�Realization normally comes quite late

�Thus, Clarity helps

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General Rules

�Money makes money

�When you have got a little, it is often easy to get more.

The great difficulty is to get that little – Adam Smith

from the Wealth of Nations

�Therefore, what is important for us?

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Savings – The Indian Story

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Savings – The Indian Story

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A “Rs. 1” Investment in different types of portfolios: 1926-2011

(Year end 1925 = Rs. 1)

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Annual Average Returns in India:

1979-2012

Returns on Investment in …

Bank Savings 3%Insurance 5%

Inflation 8%

Fixed Deposits/Bonds 12%

Shares of Large firms 17%Shares of Small firms 22%

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Annual Average Returns in India:

1979-2012

� Shares of Large Companies: 1�145 (33 years, 1979-2012)

� Fixed Deposits (of private companies): 1�34 (33 years, 1979-2012)

� Fixed Deposits of Banks: 1�17 (33 years, 1979-2012)

� But, try looking at the yearly rates of return in each of the cases

� The most fluctuating will be stocks i.e., stock returns vary widely over

time.

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Ratan Tata, Ram Kakani, Rickshawalla … �

Exp

ecte

d re

turn

���� Risk ����

Ratan

Ram

Rickshawalla

Please note that

(a)“Risk” here is “Perceived Risk”

(b) “Expected Return” is NOT “Actual Return”

(c) “Investment Decisions” are made based on the “Expected Return”

Risk and Return …. �

Exp

ecte

d re

turn

���� Risk ����

Insurance

PPF, FDs

Lottery Ticket

Please note that

(a) As Risk Increases “Actual Returns” significantly differ from “Expected

Returns”

(b) Thus, it is important to not get carried away by High Risk Instruments

Large Stocks

Inflation

Small Shares

Principles of Saving

� Have just the right amount in liquid investment + Rest in long term

deposits/ investments

� Do not let money be idle

� Decide your saving goals and an apt asset allocation:

♦ risk profile (risk averse, balanced, aggressive) ♦ return expectation

♦ investment horizon ♦ financial goals

� Avoid Asset-Liability mismatch

Retirement_Planning.xlsx

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Marketing by Financial Services Industry

– A Note of Caution

� Flattery is praise insincerely given for an interested purpose HW

Beecher

� Example 1: Ponzi Scheme

� Example 2: Lottery Ticket

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What Multiplies MONEY?

� The Power of Compounding

�Money attracts money - strong brotherhood

�Earn interest & interest on interest

� The Early Bird Gets the Worm

�Those who save early benefit more from compounding

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The Power of Compounding (1000 Rs, 10% interest)

Simple Interest Compound InterestYear Starting

Balance+ Interest = Ending

BalanceStarting Balance

+ Interest = Ending Balance

1 1000 + 100 = 1100 1000 + 100 = 1100

5 1400 + 100 = 1500 1464 + 146 = 1610

10 1900 + 100 = 2000 2358 + 236 = 2594

20 2900 + 100 = 3000 6116 + 612 = 6728

50 5900 + 100 = 6000 106,718 + 10672 = 117,390

100 10,900 + 100 = 11000 12,527,829 + 1,252,783 = 13,780,612

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Investment Options

� Fixed / Term Deposits and PPFs

� Equity

� Debt

� Insurance

� Mutual Funds (Equity / Balanced)

� Real Estate

� Precious Metals – Gold / Silver9/23/2013RKK/LBSNAA

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Insurance

� Avoid investing in ‘investment’ type of insurance schemes …

in other words, prefer – pure risk instruments

� Protection for the family

� Compulsory regular savings

� Tax Benefits

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Equity Markets – Getting Started

� Start early and invest regularly

� Stick to shares matching your risk profile (for example, if you are okay

with taking risk … then go for small/medium sized companies)

� Liquidity is the single most important factor especially during volatile

periods

� When there are gains, separate out money for taxes

� There is no substitute to experience

� Whenever you lose money, take stock of the reasons9/23/2013RKK/LBSNAA

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Equity Markets – Some Thumb Rules

� Never invest in businesses you don’t understand

� Avoid investments in companies with a shady management record

� Understand a company’s financials and corporate characteristics before investing

� Invest when others are exiting / avoiding (bear sentiment)

� Exit when others are investing (bull sentiment)

� Be patient

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Advantages of Equity Investment

� Capital appreciation

� Annual Dividends

� Loans against equity shares

� Marketability of equity shares

� Long term capital gains abolished

� Shareholding in demat form

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Investing in Mutual Funds

Mutual Funds are investment conduits which pool the savings of many

individual investors and combine them into a fairly large and well

diversified portfolio of investments. Many types:

� Equity

� Balanced

� Index

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Advantages of Mutual Funds

� Expertise of professional management

� Spread of risk

� Freedom from emotional involvement

� Automatic re-investment of dividends and capital gains

� Liquidity

� Freedom from housekeeping

� Income tax exempt

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Public Provident Fund

� Maturity for 15 years, 5 year extensions, up to a maximum of 30

years

� Min. Rs. 500 p.a.; max Rs. 100,000 p.a.

� 8.8% interest rate (compounded annually)

� Loan facility

� Tax benefits - Maximum

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Real Estate

� Plan in the next 4 to 9 years to have your own house or apartment

� Investments in real estate are not liquid

� Facilitates diversification of portfolio besides sense of security; may also bring in rental income

� Do not make investment on the basis of hype… time your entry correctly

� Avail loan from Govt. on easy terms

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Gold

� The Annual Return (compounded) since 2000 works out to

16%

� Has outperformed other asset classes in the last one

decade …

�However, past need not reflect the future

� Provides an excellent hedge against inflation

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Asset Allocation

Age Band (yrs) Risky Instruments (%) Safe Instruments (%)

18-25 85 15

26-35 75 25

36-45 65 35

46-55 55 45

56-65 45 55

>65 35 65

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Take homes

� Every time you invest, clearly write down the reasons for the same

� Cash (and to some extent precious metals) are the best (unwritten)

insurance products

� Do not roll over your credit card bills

� Never extend your investment portfolio beyond 10-15 products

(including Shares, Mutual Funds, Insurance, Real Estate etc.)

� Review your portfolio – every quarter (not every day)

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Take homes

� Never Put off financial planning

� Appreciate the power of compounding

� Never Live beyond your own means

� Never invest (or blow up money) by borrowing

� Do not rely too much on tips i.e., investment advisory services

� Do not have unrealistic expectations

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Take homes

� Never put more than one-fourth of your money in one investment

product

� Never invest in avenues where you’re either not sure of the

business model or it’s too complicated

� Never be a part of Ponzi Schemes, Pyramid Schemes, Lottery

Tickets etc.

� Do you think money can buy you happiness?

� My take … impossible9/23/2013RKK/LBSNAA

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THANK YOU

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