Managing Personal Finances and Investments


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personal financial investments:

personal financial investments Dr. Abhijit Phadnis 23 rd August 2014

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About the Author Dr. Abhijit Phadnis B. Com, ACMA, ACA, ACS, CFA, PhD (IITB) Dr. Abhijit Phadnis is a Chartered Accountant, Cost Accountant, Company Secretary and Chartered Financial Analyst, with a high all-India rank in all these examinations; having stood 11 th , 2 nd , 1 st and 3 rd respectively. He was also awarded a Ph.D. by IIT, Mumbai, and his thesis has been published by a German academic publisher for sale globally. He is a rank-holding graduate in Commerce, from the University of Mumbai . Abhijit began teaching management students in 1985. He has conducted over 300 executive education programs for over 45 reputed Indian companies, and has always received outstanding feedback for his teaching skills. One consistent feedback from all the participants is that Abhijit makes complicated things simple! Currently, Abhijit is a visiting faculty with the School of Management at IIT, Mumbai . Abhijit blends his teaching with a lot of practical insights, obtained through his 28-year professional and consulting career. He has worked for reputed firms like Johnson & Johnson, Grindlays Bank as well as for two Swiss Banks - UBS & Credit Suisse. He was a Director with the Indian subsidiaries of these two banks and was in-charge of all the business support functions in India. He has also served on the Board of a reputed co-operative bank. Apart from stints in the corporate world, Abhijit has served on the Academic Council and Board of Governors of The Institute of Chartered Financial Analysts of India. Abhijit has also been very active socially.

Investing basics:

Investing basics Focus of our today’s discussion is investing Investing is not possible without saving, hence save we must

Saving vs. investing:

Saving vs. investing We work hard and save something out of it Investing is to make our savings work for us, while we do what we like to do

investing vs. trading:

investing vs. trading Investing is about putting savings to work in a stable way, so that we beat the inflation and take control of our future when we don’t have any earnings Trading is about churning the capital without a long-term commitment; often it is treated as a source of earning itself

Investment Assets (financial):

Investment Assets (financial) We have various choices for making investments Broadly, investments can be divided into two types : Traded through markets/ organized institutions Shares Mutual Funds Exchange Traded Funds Listed bonds & securities Personalized, non-traded Deposits PPF Investment oriented insurance

Investment Criteria:

Investment Criteria Return commensurate with risk Higher the risk, higher should be the return Return should compensate for inflation Liquidity/ Reversibility Sale in part or whole Taxation Long-term Short-term Income/ Dividend

When investing, we cannot avoid risk:

When investing, we cannot avoid risk Risk of default (non-receipt of capital) Interest rate risk Higher the interest rate, lower is the value of a financial instrument Liquidity risk: Not being able to realize money when we need it, lock-in, shallow markets, hefty discounts Price risk: value of an asset class dropping Currency risk Inflation risk: Price appreciation not commensurate with inflation Risk concentration Biggest risk: uninformed investing

Investing principles:

Investing principles Let us now talk about very important investing principles that help us maneuver tough waters of the financial world One key question: should we entrust our hard-earned money to some one else to manage? It is vital that we take charge of our own financial destiny

Principle 1: protecting capital:

Principle 1: protecting capital Investing in an asset class with least downside risk at that point of time Thus, it is vital that we derive clarity about how different asset classes behave Generally speaking, any asset class is best to invest in when there is blood on the street

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Interest rate & Asset Values:

Interest rate & Asset Values Higher the interest rate, more expensive (opportunity loss) it is to hold any asset Significantly relevant for: corporate bonds, government securities Very relevant for equities due to higher interest burden Also relevant to certain extent for real estate, gold, silver etc. as borrowing costs rise Hence, while investing, critical focus is required on interest rate and its direction

10-Year Government Securities Yield:


Why timing is crucial:

Why timing is crucial 1 year : 43% 2 years: 22% 3 years: 17% 4 years: 9% 5 years: 12% 6 years: 11% 7 years: 9% If you wanted your money today to meet family needs, you would be fine and elated

Why timing is crucial:

Why timing is crucial 1 year : 4% 2 years: 6% 3 years: 0% 4 years: 5% 5 years: 5% 6 years: 5% If you needed money a year ago what would have happened? With inflation being at ugly 10% for each of the 5 years, you would have clearly lost money

Great time to move into Equities:

Great time to move into Equities Expectation that interest rates have peaked Government with decisive mandate; good action plan Peaking of current & fiscal deficit situation Significant liquidity around the world Opportunities for repairing corporate balance sheets Softening of global commodities* * From Indian perspective All bad news about equities is out in the open Maximum earning downgrades by analysts

Good time to move into Money market mutual funds, when:

Good time to move into Money market mutual funds, when Very tight liquidity conditions in money markets Lack of clarity about prospects of other assets Very high rates of interest in call market You need flexibility of withdrawal/ switch

Good time to move into debt schemes of mutual funds:

Good time to move into debt schemes of mutual funds Gradual easing of interest rates Corporate balance sheets are under repair Government fiscal situation improving Growth in the economy attracting foreign capital

Good time to move into Gold:

Good time to move into Gold Very high risk aversion around the world Concerns about economies of major currencies: $, Euro Low risk of Rupee rise due to investment flows Long underperformance and time to catch up

Principle 2: Being nimble:

Principle 2: Being nimble Attractiveness of asset class varies from time to time Position portfolio to take advantage of the changing trends Distinguish between ‘appreciated’ asset and asset ‘likely to appreciate’

Principle 3: ride a rising wave:

Principle 3: ride a rising wave Buy an asset class which is in a rising trend Never enter once decline begins till decline has run its full course We cannot exactly catch the bottom, but we can easily sense when there is enough apathy about that asset class: blood on the street

Principle 4 : booking profits is vital:

Principle 4 : booking profits is vital Asset values are unreal till converted into near cash such as a liquid fund or deposit Thus, it is very important to book profits from time to time

Principle 5: diversification:

Principle 5: diversification Diversification is very important: the old adage don’t keep all your eggs in one basket Particularly in respect of equities, time deposits Can use index funds instead of spending time on individual stocks & tips Over-diversification itself poses risks, since tracking becomes impossible

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Principle 5: diversification

Principle 6: smart sip:

Principle 6: smart sip Often advisors talk about SIP: Systematic Investment Plan It is great for the mutual fund and the broker, but for the investor? It works OK (though not the best) if your exit timing is good. But what happens when we need funds at the worst time in the market to exit? SIP is often treated as an alternative to ‘application of mind’ Can it be the best alternative? Better to go for “SMART SIP” & “SMART SWP” to take advantage of market turns What are they ? They are very shot term controlled investments or sales Not through a standard periodicity but at the discretion of the investor

Principle 7: make it simple:

Principle 7: make it simple Should be able to track your investments in 10-15 minutes Focus on study of asset class rather than individual asset: saves time & is far more productive Use electronic access wherever possible so that monitoring is easy

Principle 7: make it simple:

Principle 7: make it simple Should be able to track your investments in 10-15 minutes Focus on study of asset class rather than individual asset: saves time & is more productive Use electronic access wherever possible

Principle 8: keep tax considerations in mind:

Principle 8: keep tax considerations in mind Tax-effectiveness of investments is vital Focus on post-tax return Equities provide on an average 17% returns post-tax, fixed deposits pay 10% but effectively only 7% Don’t invest more than Rs . 2 Lakhs in a mutual fund in a single day: AIR implications

Principle 9: liquidity:

Principle 9: liquidity Ability to get out of an investment without pain is very vital Avoid lock-up of money to the extent possible

Principle 10: suppressed assets bounce quickly:

Principle 10: suppressed assets bounce quickly Equity markets in last year have given amazing returns 1 year : 4% 2 years: 6% 3 years: 0% 4 years: 5% 5 years: 5% 6 years: 5% Returns upto August 2013, with respect to horizon of investment In one year, equity markets have returned 43%

Principle 11: dangerous averaging:

Principle 11: dangerous averaging Don’t try to average with lower prices Cheap can only get cheaper increasing our paper loss Finally, a day comes when all the accumulation gets sold at even lower price

Typical retail investor psyche:

Typical retail investor psyche

Typical Investors at different stages:

Typical Investors at different stages Slump in asset values, blood on the street, savvy investors accumulate, retail investors sell Asset class has recovered, gradually becomes ‘acceptable’ among institutional investors Rise in asset values; becomes fashionable; retail investors start to move in, savvy investors prepare exit Asset bubble is formed, ill-informed retail investors flock in, savvy investors exit

Principle 12: insurance is not investment:

Principle 12: insurance is not investment Unfortunately, Insurance has been historically sold as an investment instrument It is not Separate your investments from insurance needs


Principle 13: POWER OF cOMPOUNDING Use power of compounding to your advantage Never investing in a declining trend and exiting on getting the returns ensures that you have cash to put to use in another asset

Principle 14: don’t get carried away:

Principle 14: don’t get carried away No company management is 100% ethical Hence , you don’t have to commit to a company for a lifetime investment Don’t get carried away by any name You should be committed to ‘money’ not to an ‘investment’

Importance of asset allocation:

Importance of asset allocation All asset classes are useful But, not at the same time Thus, we need to identify which asset class to be in at the right time Wrong timing could be disastrous: Very low return, much lower than inflation Erosion of capital We spend a lot of time on which asset, but hardly on asset class I recommend an approach which focusses on right asset class first: that time is well invested

Two factors that drive markets:

Two factors that drive markets GREED FEAR 1 Want more, not satisfied 2 The asset will always go up 1 Of slump 2 Of being left out 3 Neighbour is smarter than me Just like in spiritual life, in the markets also these two factors play havoc with our financial life.

My current (aug 14) views about asset classes:

My current ( aug 14) views about asset classes Asset Class View Long-term Debt Instruments or MFs Interest cycle turning but inflation not under complete check. Current account situation getting better but fiscal still has a question marks due to internal expenditure needs. Hence, increase the exposure to these gradually. However, long-term fixed deposits would be good as they do not have market risk. Equities We are on the threshold of a mega bull market, if the government does what it has promised, including labour reforms. Great investment over next 3-4 years. Buy on dips due to international shocks. Be more stock specific, particularly mid and small caps could provide great returns, if you understand their business. Gold Gold has lost its appeal as Euro & US economies are on the gradual recovery path. Short-term attractiveness due to geo political issues. Money Market MFs Safe bet: As credit off-take improves but deposit growth lags, liquidity could remain tight providing good returns & flexibility. However, a year later the situation could change.

Important aspects:

Important aspects Keep a certain portion of your assets in safe assets such as PPF, PF, Deposits, MMMF D ecide the absolute amount based on your age, responsibilities and circumstances For the rest, identify that asset class which provides the most promising return opportunity Identify that asset class which has already provided you with expected return and is now about to turn downwards Remember mean reversion works

Other humble suggestions:

Other humble suggestions Don’t unnecessarily multiply your investments avenues Don’t rush for every investment that people keep recommending to us If you cannot directly invest in an asset class, there are mutual funds available dedicated to that asset class Limit your banking, mutual fund & broking relationships Watch for vested interests

Best wishes & happy investing:

Best wishes & happy investing

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