3 Pillars of Wealth Creation

The world of Finance is full of products and services that entice you to part with your money, in an effort to create wealth on your behalf. They are as diverse in their risk-return offerings, as they are in the range of know-how required to profit from them.

Some of us find the task of spotting a good investment in equity shares or IPOs too daunting, while others operate effortlessly in exotic derivatives that “short” the market to make money even when it’s on its way down. Some speak of Real Estate as a sure thing, while others can’t even afford to pay their rent (mortgage), let alone dream of a second property.

Essentially, there are just three levers you can use to your advantage:

  1. Earn More
  2. Spend Less
  3. Invest Better

I know, I know. It sounds so simple and obvious. But, let’s examine them for a moment.

When faced with a situation of needing more money, we often tend to think of only one of these 3 levers to improve our current situation. The fact is that, at any point in time, all three choices are available to us – independently or in combination. What matters is a better understanding of our own Risk Profile, and the assumptions we are making in our decision process.

Let’s take an example. Say, you’d like to save up to buy a car in a few years time.

Your typical response would be to start blocking some of your money in a separate account, or start a Systematic Investment Plan (SIP), so that it is earmarked for the goal you have defined – in this case, buying a car. However, you have several options before you.

A. Invest Better
Since this is a specific, goal-based investment objective, you may be able to afford a slightly higher risk on this particular investment than the rest of your portfolio. For example, venturing into a more aggressive top-rated Equity-based Mutual Fund to improve your chances of earning returns.

B. Spend Less
In addition, you could also take on a target of going out for a meal, one less time than you normally do each month, parking that saving too in your goal-based investment.

C. Earn More
Finally, you also have the option of taking on a part-time assignment that utilizes your skills and helps you earn some extra bucks.

The possibilities are endless, but the concept remains the same; these three pillars are all that’s involved while evaluating any form of financial investment, however basic or advanced the underlying products may be.

When you start thinking actively about the levers at your disposal, you can make a more informed choice about the path you want to set yourself on, to achieve those financial goals sooner.

As always, understand your own risk appetite and the expected reward ratio for any form of investment, before you venture into a new category.

Note: This blog post is strictly an educational and informational service, and does not constitute personalized investment advice. The commentary, analysis, opinions, advice and recommendations represent the personal and subjective views of the Editor, and are subject to change at any time without notice.

Spend Less Than You Earn

I often find myself advising friends on the basics of personal finance. After all these years, it still surprises me to learn how little some of us know on the subject, given our advanced degrees in education. This post should serve as the first step towards bridging that gap…

We know about the good habit of “saving”, and do our best to practice it. As often as possible, we put away money in the bank for a rainy day or a future goal, telling ourselves that this is the best we can do under the circumstances.

After paying the rent (or EMI), the salaries of the domestic help, and other monthly household expenses, there is very little that remains behind.  Some months, we are unable to manage any surplus at all! After all, times are tough. And the price of nearly every thing keeps shooting upwards.

No wonder the size of our savings does not seem to keep pace with our needs and wants!

Is there a solution?

Fortunately, the answer is simple: Spend Less Than You Earn

It is a simple and effective way to remedy the situation. But few have the discipline to follow this advice. The biggest obstacle in its path is our impulse to “own” every shiny, new object we desire in a moment. Do this often enough, and you can say goodbye to any real savings you hope to accumulate in your early years.

The antidote? Spend some time thinking about the impulse purchases you tend to rack up, and eliminate those to start with. It helps to delay the purchase for a week and assess if you still want it. (Often, you will find that the feeling has passed!)

Then, focus on the biggest recurring expenses that form a part of your monthly budget. Remember, the 80-20 rule applies here. Focus on two or three major heads that contribute the most to your expenses for maximum impact.

Making changes will not be easy or without inconvenience. But, if you are constantly playing catch-up or desperately waiting for that salary cheque to come in, the rewards will be worth the effort.

You will need to figure out which trade-offs are acceptable to you and your family. For example, your rent or EMI payments may figure among the top three expense items – Can you afford to shift to a smaller place or find a house further away, to reduce this cost head?

Once you tackle the impulse expenses, and make a real dent in the top three recurring items, you should find yourself in a comfortable position to start accumulating some savings each month, without worrying about the next month’s bills.

And that’s a good place to begin from, isn’t it?!

Note: This blog post is strictly an educational and informational service, and does not constitute personalized investment advice. The commentary, analysis, opinions, advice and recommendations represent the personal and subjective views of the Editor, and are subject to change at any time without notice.

How To Buy Insurance

If you are over 30 and an Indian, chances are you already have “some insurance cover”. Chances are also pretty good that you are ‘under-insured’, which means you do not have enough Insurance cover to safeguard the interests of your dependents.

According to John Nelson, chairman of Lloyd’s, the world’s largest insurance market, “India is the second most under-insured market in the world“.

So, what’s going wrong?

Two things, we think. First is the relatively poor understanding of the buyer. Second is the selling practices of the Insurance service providers.

First things first – you need to understand what you are buying.

The point of taking “insurance” is to insure against risk, so that your loved ones are taken care of, even when you are no more.

Imagine you earn about Rs. 50,000 per month. Your annual income, therefore, amounts to Rs. 6 lakhs. If your current expenses are more or less being met by your income, with a modest surplus being generated each month, your family will need that annual figure of 6 lakhs per year, if you are no more.

Assuming a thumb rule of 10x to provide for roughly 10 years of their living, that amounts to Rs. 60 lacs. Even with a modest inflation rate, that figure is likely to be closer to Rs. 90 lacs, in order to provide for the cost of living in the future.

Therefore, an adequate amount of Insurance cover for such an individual would be close to Rs. 1 crore as sum assured. And that’s just with a take-home salary of Rs. 50,000, to accommodate 10 years of your family’s expenses. If you earned double of that, the target sum assured would be Rs. 2 crores.

In addition to the standard calculations shown above, you would also need to add to the insured amount when your life-stage changes e.g. a new addition to the family, or when you take up a large home loan. But, most of us don’t factor these variables into account, and merely end up buying “some insurance” as a tax-saving instrument.

So, if you do not have adequate insurance cover, don’t go down the path of buying exotic, hybrid products that offer insurance cover plus the promise of market-linked investments. Instead, choose a “term” product to cover your basic risk at the lowest cost possible. Then, look for other options to add to your portfolio.

Tip: Insurance agents may not talk about such products unless probed, because they earn very little commission on such products.

Note: This blog post is strictly an educational and informational service, and does not constitute personalized investment advice. The commentary, analysis, opinions, advice and recommendations represent the personal and subjective views of the Editor, and are subject to change at any time without notice.