How can we save more in the same Income?

We all want to save more but we have limited resources, so how can we increase our savings in those resources only. In this post we will try to find out few simple tips which can be used to improve our overall savings.

1. Have a budget and follow it

We should have proper budget so that we can control the expenses within limits. Best way to do it is by fixing certain percentage of our income as saving and the remaining amount be spend or

Income - Savings = Expenses.

2. Nothing is free

We generally tend to spend more when using a credit or debit card, than when using cash. Similarly, we also treat a windfall income like a bonus and regular income like a salary differently. If we realise that the money spend by credit/ debit card will also go from our own income only and bonus is also hard-earned money, we may be more sensible while splurging this money.

One time cash flow can be invested through STP way which we have discussed in my last post (see the post How to invest large sum when market is at all time high?

3. Not Just Save but Keep on Increasing the Amount

It’s good to start saving but that is not enough. We should regularly increase the quantum of savings and investment. This can be done in line with the increase in income. In few cases like in EPF this increase happens automatically, as contributions to it is fixed as percentage of salary. However For other investment avenues, the onus of increasing contribution lies with the investor. By increasing the quantum of investments annually, we can reach to our goal faster or generate a bigger corpus.

As a thumb rule we should increase the amount by the rate of inflation. In mutual funds there are “Step-up SIPs  by which we can increase the SIP amount by certain amount or percentage  at a predefined time interval which can automatically increase our saving rate.

4. Saving is not enough, It should be invested properly

Once we have decided to save more and increase the quantum regularly, the next step is to route this savings into suitable investments. Few people are very good in saving but not good at investing. If we keep large amounts idling in savings accounts that generate 3.5% returns and in tax inefficient FDs then it is not a very sound investment strategy.

We need to overcome from loss aversion mentality, which occurs when the pain of losing money is greater than the happiness felt in gaining an equal amount. We need to understand that while keeping the money idle in bank accounts, assuming its safe we ignore the risk of inflation which ends up earning with 3.5% returns, actually lower than inflation. There are different instruments, suitable for different time period, like a cycle is good for 5 Km but not for 5000 Km equally an aeroplane is suitable for 5000 Km but not 5 Km. So we may take certain calculative risk and manage the risk in a way so as to improve our overall returns.

We should diversify our investment but also avoid overdiversification, have moderate return expectations and automating the investment process through long-term SIPs.

5. Keep a Watch and Rebalance it

It is also equally important to rebalance the portfolio based on our own requirements and market conditions. This rebalance can be between asset classes or between categories. Most people increase allocation when the market is doing well and reduce in a bear market. By Automating asset rebalancing, we can remove the biases and make it more efficient.

6. Stick to it; don’t divert the funds

Some time we start using the money earmarked for goals for other needs. We can avoid it by segregation of investments for specific goals, by this we can be clear how we are doing to achieve these specific goals.  We can stop from dipping into investments prematurely by opting for investments that restrict liquidity. Long-term lock-ins help improves the power of compounding. As the power of compounding is back-ended and the maximum benefits come in later years.

For short term and immediate requirements, emergency fund is a better way so as to not to digup from long term investment portfolios. This fund should be invested in a liquid instrument so that it is readily available.

For example, assuming a return of 12% P.a., If someone investing Rs. 5000/- monthly for 5 years will get Rs. 4.12 lakhs at the end of the period while if he continues the monthly investment for 20 years his total corpus could be almost Rs. 50 lakhs which is 12 times than five years corpus while investment amount has gone up by four times only.

These are few simple behavioural tips which can be used to improve our overall savings without putting much pressure on our spending habits, if used properly can give visible change in total portfolio.

How to invest large sum when market is at all time high?

We all understand Systematic Investment Plan or SIPs as they are generally know as to invest regularly. But what should we do if we want to invest a large sum and not so sure about the market, for those investors STPs could be the right answer to so as to spread risk over a period of time. Let’s understand it in more details.

Most of us understand SIPs which is the best way to invest in mutual funds especially for those who earn regular income i.e. salary and want to save in a disciplined way. SIPs is a systematic way of investments which works by setting up a regular, fixed investment every month or even could be weekly or quarterly. It gets you a buying price that is averaged over many months or years, which eventually enhances returns. It also protects us from falling market to some extent as SIP ends up buying more units for the same amount of money in falling process. Most importantly, in SIP the monthly or regular installment fits the income pattern that most people have.

However, many times people have lum sum money or they get due to some reason like bonus etc which is not regular but wants to invest that money also but in a much better way. If this money is meant for the long-term ( five years and above) it could be invested in an equity fund all in one go also. However, that carries the risk also, if the markets tank 10-20% soon after the investment we may lose a big chunk of our money and to recover the loss could also be long term affair. In this kind of situation may people would get panicked and redeem the entire sum.

So what could be the solution? 

The solution is simple, but many people are not aware of it, It is called Systematic Transfer Plan or STP, which effectively provides the same potential for higher returns and lower risk as SIPs do, but for onetime investments. The STP is a regular transfer of money from one fund to another. It's like an SIP but the source of the money, instead of being from our Bank Account, is another mutual fund.

So how is it better than lum sum investment?

In STP, initially the money is invested in debt funds i.e. Liquid/Ultra short term funds which have lowest risk and stable returns, and non-volatile. For example. Let's say we got Rs.20 lakh which we would like to invest in an equity fund. This could be an asset sales or bonus from an employer etc.  If we are investing the entire sum at one go, we are exposing the entire investment to any sudden decline in equity markets. Therefore, what we should do is to choose the equity fund(s) and then, choose a liquid/ultra short-term debt fund from the same mutual fund company. First we should invest the entire sum in the debt fund, and then instruct the fund company to transfer say, Rs. 1 lakh into the chosen equity fund every month. In 20 or 21 instalments (not 20, as the debt fund will also add some returns), all the money would have shifted to the equity fund. The buying price would be the average of that time period, thus insulating us from market fluctuations.

However we should always remember that STPs, like SIPs, are not foolproof. If we look back at the markets over the last 10-15 years, we will understand that while an STP generally helps one avoid a market peak and average costs, they're not a foolproof device. In a situation like 2003-2008 when markets keep rising for many years, and then fall sharply, then even an STP cannot eliminate losses. As we all know equity is volatile asset class and there's no way of doing away all risks. However, based on what has happened over the last two decades in India, stretching an investment over one to three years is likely to capture enough of a market cycle to significantly reduce risk.

How should we decide the period for STP?

That should depend on how significant is the sum of money in our overall assets. For example, If the money is  proceeds of a property sale on which some major future plan depends, then three- four years would be appropriate. On the other hand, if it's a bonus worth a few months' income, then maybe six months to one year is enough. There's no fix rule on period and it depends on what we feel is the risk.

To conclude, like SIP, STP can also help us to average out the risk which is inbuilt in the equity market. AS we all know equity market does not works in a simple line, it has short term and long term volatility based on may internal (micro) as well as external (macro) reasons. We can use different strategies to average out the risk however at the end of the day, So be ready for surprises by the market also. 

DIWALI- “A Festival of Financial Enlightenment”

Diwali is a very old festival which is celebrated on the return of Lord Ram to Ayodhya after fourteen years of exile. Diwali is celebrated on a new-moon day and the lightening of lamps indicates the destruction of darkness and evil. For all Indians Diwali is one of the most popular Indian festivals which is celebrated with lot of pomp and splendour. “Lakshmi” The Goddess of Wealth is worshiped on this festival. It is an important occasion for many reasons like the importance of human bonding, celebrations in family, reunions of friends and relatives, etc.

This is an occasion not only for a traditional reason, but also for its significance to organise all the financial information. This tradition is equally significant for the business as well as many business starts new account books on this day, in Stock exchange also there is Muhurat Trading, a special occasion for the stock markets.

The Diwali festival also gives us a great learning about money which we have tried to discuss as below:

1. Dhanteras: Bringing home the “Dhan” –

The first day of Diwali, Dhanteras (“Dhan” meaning wealth and “Teras” meaning the “thirteenth day”) falls two days before Diwali. The day pays homage to Lord Dhanwantari who is associated with Ayurveda and various healing practices for the good of mankind. This day marks the day to make new purchases and investments and can also be referred as start of financial wellbeing. This day is considered to bring good luck and prosperity to the family. The popular belief is that any investment made on this day will grow and multiply throughout the year. It is the day chosen by most people to make investments in gold, silver, platinum or any other metal.  Regularly investing in precious metals, every year during this special day also helps you in growing and accumulating wealth over a long period. Off late, stepping aside from the traditional definition of investing in physical metal, it is seen that many investors also invest in gold ETFs, or financial instruments which is akin to investing in physical gold. The key learning is that we should keep on accumulating wealth regularly which will lead us to our financial wellness.

2. Narak Chaudas: To Clean up -  

The significance of this day is grounded in the story of Lord Krishna's overwhelming triumph over a ferocious demon named 'Narakasur', who kidnapped the 'gopis' This is the second day of Diwali wherein every one cleans up their home/work place and remove all the unnecessary things.

Similarly we should also check our portfolio thoroughly to ensure that it is aligned with our financial goals along with unforeseen/emergency expenses and also remove those investments which are no longer required. one of the key-learning’s on this occasion is to identify and eliminate the financial mistakes committed in the past be it availing high cost debt, wrong financial products purchase like endowment, ULIPs, etc.

3. Lakshmi Pujan: Respect the Money –

This is the day when Lord Rama finally returned home from exile and was welcomed with a glittering row of lights radiating from every household. It also coincides with the Pandavas' return from the forest. Lakshmi Puja is performed on this day. Lakshmi  is the Goddess of Wealth and her worship shows the respect of wealth and to preserve it in a pious way. This teaches us that we should do hard work with clean heart to earn so that goddess lakshmi will stay in our home forever. This day we also play with firecrackers and exchange sweets and presents which shows to celebrate happiness and share the joy of wealth with others. However we need to be careful and should not indulge into show offs which could be very dangerous.

4. Govardhan Puja or Padva: Anything can be achieved -

The fourth day is Govardhan Puja or Padva. It is the day when Lord Krishna defeated Indra by lifting the huge Govardhan Mountain. This gives us a learning that anything is possible if we believe in our self and put hard work. This is also New Year for many communities in India and symbolises a new start by overcoming past mistakes. We can start a new financial plan and make new commitments to ourselves so as to come out of our old perils and achieve new success in life.

5. Bhai Dooj : To share with our Loving Ones-

The fifth and last day is Bhai Dooj. On this day sisters invite their brothers for a lavish meal and perform a ‘tilak’ ceremony. Sisters pray for their brother’s long and happy life while the brothers give gifts to their sisters. This also teaches us to share the things with our loved ones like employers giving bonus/ESOPs to employees and employees promise to work hard to make their company more successful. Bhai dooj occasion teaches us that everyone has a role to play and if all of us do our duties with sincerity great success can be achieved easily.

Diwali is celebrated on a new-moon day and the lightening of lamps indicates the destruction of darkness and evil. Everybody aspires for a good time, and spending for the same is human. But one should never forget that celebrating a festival or an occasion should never be a onetime affair but should be done every year. Meaning although spending now can add to the celebration, it may adversely impact the saving potential thereby resulting in weak financial planning habits which in turn may compromise the financial goals in the future.

The best financial practice on this front is to allocate a budget for non-committed or discretionary expenses such as a festival, occasion or a celebration every month/year and comply by the budget. Strict adherence to the budget negates the possibility of overspending thereby enhancing surplus which in turn leads to a higher likelihood of celebrating these occasions regularly and not just one time.

Making Young Generation financially responsible

We all want in our heart that our children should become responsible adults, without facing any hardships due to their ill-thought out actions that results in regret and remorse. So how should we make them more sensible and literate about money and make them mature enough to handle it more sensibly. In this post we will discuss few important points which can be taken up during the teenager time of our children and help them to become a responsible person in future.

1. The kids grew in the family so the first lesson towards money is also learnt in the family environment. If we deliberate and discuss the merits of every financial decision with other family members, our kids will also pickup this habit. We should make them understand that money is a limited source and we should be avoiding impulsive buying or swiping credit cards carelessly. Be careful and clear why we are buying anything.  For kids we may fix a monthly allowance and stick with it to make them understand the meaning of budget and spending within their means.

2. As money is a limited source so we should also plan it properly. Making budget a joint affair with all family members will make them understand the value of money and the limitations we have towards spending it. During this exercise we will make them aware the priorities of various expenses and how should we allocate funds towards them. They will understand the importance and difference between various expenses i.e. food, basic amenities over discretionary/leisure items as costly electronic gadgets.

3. Let the kids also maintain their own income and expense records and we may check it once in a while. This will help them to review their past expenses and correct the unnecessary things on regular basis. Nowadays many online apps are available which can be very handy for this.

4. Encourage our kids to do some works (howsoever small or menial it is) if they need more money for buying luxury items so as to make them understand the importance of work and value of money.

5. Make them value others money also. Encourage them to pool money for joint expenses like eating out with friends so that everyone contributes and values others money. This will help them to take joint decisions in equitable manner which is good for everyone and does not becomes a burden for few.

6. We should guide them about few basics of banks and finances. Open their own bank accounts and let them learn basics of banking like doing banking transactions, using ATM/Debit cards or online transaction with proper safety. This will make them more confident and also make them understand how different system works.

These small habits will make them self-independent and help them to become a responsible person in future while they grow older and have their own families.

Mutual Fund + Term Insurance: Best of both Worlds

Investments comes for our help when we are there for long time and insurance rescues our family from financial crisis when the earning member is no more. Investment and Insurance both have their own importance but most of the time we get confused or confused by others and club both of them by this popular product called endowment plan - without realizing that these endowment plans give a return of 3% to 7% only. The best strategy that the layman investors could adopt is to take protection plan or what we most commonly call the Term Insurance cover and top this up with a Systematic Investment Plan (SIP) in an equity Mutual Fund Scheme.

A term insurance plan is an insurance cover taken by on the life of the person insured. In case of unfortunate death or disability or critical illness of the person insured, the beneficiary i.e. nominee shall receive the sum assured under the policy; however in case of survival the policyholder shall receive no return.

(A) Features of a Term insurance policy

1. This plan covers risk only: No return if nothing happens

2. Cheapest form of life insurance: The premium is as less as 10% as compared to traditional plans

3. Most suited for sole bread earners of the family: With less premium we get maximum coverage

4. Tax Benefits: It has same tax benefits under Section 80C of Income tax (max. limit 1.5 lakhs)

(B) Systematic Investment Plan of Mutual Funds

SIP or Systematic Investment Plan is a disciplined and a systematic way of investment in mutual fund schemes. Usually in India systematic investment in mutual funds is referred to as SIP. The investment can be made in any scheme i.e. equity, debt, gold or a blend of these. In SIP the money is directly debited from the investor’s bank account on a predefined day of each quarter/ month or week. The mutual fund scheme could be debt or equity oriented fund and can have tax saving equity linked saving schemes (ELSS). The below matrix suggest the various types of equity and debt oriented mutual funds, the risk return Matrix and their debt equity profiling.

For Example Let’s take LIC’s Most popular Plan New Jeevan Ananad:

For a thirty year old person the premium for 1 crore cover for 35 years tenure comes to Rs. 2,99, 434 annually or monthly premium of Rs. 25,516. For the same person if he takes LIc’s Amulya jeeva Policy (a Tem Insurance Prodcut) the Premium Comes to Rs. 32,096 annually or Rs. 2,675.

Suppose Mr. A takes Jeevan Anand and Mr. B takes Amulya Jeevan and invests remaining amount in Equity Mutual Funds. Let’s see the outcome:

Particular*	Mr. A takes : LIC's Jeevan Anand	Mr. B takes: Term Insurance + MF SIP
		LIC's Jeevan Amulya	Equity MF SIP
Monthly Premium	24,417.00	2,312.00
Service Tax	1,099.00	416.17
Total Monthly Premium	25,516.00	2,728.17	22,105.00
Timer Period	35 Years	35 years	35 Years
Death Benefit	1 Crore	1 Crore	NIL
Survival Benefit	Simple Annual Bonus + Final Bonus	NIL	Market Based Return
Assumed Bonus/ Return Rate (Annual)	6%		15%
Maturity Amount	2,45,27,244.00	NIL	15,30,39,096.00
*For A 30 Year old person and 35 years tenure

As we can see from the table above the maturity amount for Mr A comes to around Rs. 2.45 crores whereas Mr B who has taken combination of term insurance and mutual funds the total amount could be as much as Rs. 15.30 crores which is more than six times compared to Mr A who has taken Endowment Policy only. The difference in total return is really huge and makes a significant difference in the person’s wealth.

However, we should note that endowment plans are assured benefit products, in other words on maturity the insured will get the sum assured, plus the bonuses declared by the life insurance company every year. On the other hand, in the case of term plan + MF ELSS, maturity benefits are not assured, because there are no survival benefits in term plan and mutual funds are subject to market risks.

Further the 15% returns assumption for ELSS, is a critical element in financial case for term plan + ELSS versus an endowment plan. In the last 15 – 20 years, monthly SIP in top performing ELSS would have yielded more than 20% annualized returns, so this type of return can be expected in future. 

ETFs: Will they suit you?

ETF or Exchange-traded funds have attracted a lot of investments especially in developed countries, So what are they and whether they will be suitable for our specific requirements, let’s understand them in detail and how should we use them to meet our goals.

1. What are ETF’s?

ETFs are special purpose vehicle i.e. an ETF is a marketable security that tracks an index like S&P CNX Nifty or BSE Sensex, a commodity, bonds, or a basket of assets like an index fund. The ETFs trading value is based on the net asset value of the underlying stocks that it represents. Means Basically ETF represents that particular benchmark with which it is associated with. ETFs provide broad market exposure, low operating expenses and low portfolio turnover.

2. How ETF’s are traded?

Unlike mutual funds, an ETF trades like a common stock on a stock exchange. ETFs experience price changes throughout the day as they are bought and sold (unlike Mutual Funds which are brought/sold at the end of the day NAV).

3. What are ETF strategies?

The strategy for ETF investment is that we don't need to keep monitoring the performance of any specific fund or schemes. However we should also keep this in mind that betting on benchmark indices, can only make market-linked returns.

There could be different type of ETFs like Market Cap based ETFs, Sectoral ETFs or theme based ETFs i.e. consumption, dividend opportunities, long term capital appreciation etc. There are also non-equity ETFs like debt-oriented ETFs and commodities ETF like gold-based ETFs

A passive investor looking to remain invested for the long term, can consider ETFs based on his risk appetite and outlook on benchmark indices. A person can select ETFs linked to large-cap indices like Sensex, Nifty, etc. or mid-cap indices like BSE Midcap 100, Nifty Midcap 100, etc. depending on his specific requirements/risk appetite.

Another set are Sectoral ETFs. These are for more advanced investors who are bullish on a particular sector, but don't have the expertise or time to select and monitor stocks.

Other set of ETFs is based on themes—like consumption, dividend opportunities, etc. Stock exchanges have also started introducing new indices--low volatility index, quality index, etc. Few mutual funds have launched ETFs that track these indices. However being a new category, the asset size is very small for these type of funds and it is better to wait for some time to monitor its performance.

The non-equity ETFs like debt-oriented ETFs, bet on the possible movement on interest rates in short or long term.

Among commodities, currently in India only Gold-based ETFs are available. However, they have to compete with recently introduced Gold Bonds.

4. Active versus passive funds; which is better?

While the index funds and ETFs have started attracting major investments in developed markets, these passively managed funds are yet to pick up in India. This is because the actively managed funds continue to outperform their benchmarks. Most large-cap funds have outperformed their benchmark index in the past and they should beat the index funds and ETFs in the future too.

However, this situation may be going to change in the long term. Slowly we are moving from an inefficient market to a somewhat efficient market and going forward the efficiency will increase further. This will bring down the alpha (the additional return generated by managing funds actively) generation capacity of active funds. Falling outperformance is a global trend and as the Indian markets align with the world, their outperformance will come down.

5. What Precautions we need to take?

         (i) Keep it simple:

ETFs mentioned above, except those tracking the indices, are complicated. So we should invest in them only if we understand them properly, or should seek the help of experts. Although we can trade in ETFs on intra-day like equities however we should use ETFs only to align our investment objectives, not for trading.

       (ii) Buy only liquid schemes

Liquidity is a major problem for Indian ETFs, there are several ETFs that are not traded frequently. As they are bought and sold in the markets un-like mutual funds, ETF issuers have no obligation to buy it back from Investors hence an investor has to totally depend on the market for selling and buying them. And, when the trading is less, the bid-ask spread widens, raising the impact cost for both buyers and sellers. So ETF investors should restrict themselves to the counters with sufficient liquidity. To ensure liquidity, choose ETFs that have a large asset base. It is also an insurance against a fund house abruptly closing an ETF if it becomes unviable.

        (iii) Restrict the total exposure

As currently in India the ETF options are very few hence investors should restrict exposure to around 10-15% of total portfolio, and increase it only when more opportunities arise.

                 

Investors often compare ETFs with mutual funds. It's like comparing apple with orange. Every investment is different and caters to the different needs of investors. So while making any investment decisions we should be clear about our risk appetite, investment horizon, financial goals and take experts advise to select the right products.

Are we Financially Independent ?

This month we have completed 70 years of Independence, so have we also got financially independent. If not then it’s high time to think of our financial independence.

Financial independence occurs when we have saved enough to support for the rest of our life without needing to work for money. We can still choose to work for other purposes – like for some passion/hobbies or any other purpose - but we no longer need an income to meet our expenses.

Attaining financial independence requires discipline and limitation of wasteful spending especially on non-essential items. It's a myth that financial independence can be achieved only by wealthy, It all depends on developing good money management skills.

Achieving financial independence is an ongoing process; it's a behaviour pattern that must be practised consistently. We are outlining some tips for achieving financial freedom:

1. Invest on self to increase future Income

We should continuously improve our skills. By being better at our profession will pay us more for what we do. We should learn new technologies, on-going trends and future of particular business so as to keep ourselves updated with them and learn to use the best from them.

2. Choose the lifestyle

It Is always advisable not to spend all our Income just to maintain certain lifestyle.

Also never use debt to fund the lifestyle; the use of credit cards to fund a particular lifestyle will only move backwards. First we should conduct a careful analysis of where most of our money is spent and we may figure out the wasteful expenditures that are unnecessary and can be removed from the list. This is all about gauging what is important enough for me to spend our money on. You can use our calculators at www.capstreetconsultants.com to gauge the money required for future necessities.

3. Evaluate financial decisions carefully

Before making any financial commitments, we should look at our financial situation holistically, for example, Instead of buying something we really want on credit rather save for it. It's better to save for the items we want to buy, it's delayed gratification but much cheaper. Start a Systematic Investment Plan to fuel our dreams.

4. Not just Save but Invest Wisely

By putting money aside we let your money work for us. We should also take advantage of the Tax Saving plans too by which we can save tax as well as invest the money for future. We should Invest in Equity and equity oriented funds for achieving long term goals. Ignore financial news and the fluctuations of the market keep investing In good times and bad.

5. Be sufficiently insured

Life Insurance provides the much needed peace of mind while we Plan for our Financial Independence. Health Insurance is also very important to keep ourselves secure for medical emergencies. Though people argue that if you have Financial independence, then you don't really NEED Life Insurance. However, real life is usually more complicated than what we think.

Staying Financially Independent is not one day job but is an ongoing process, even after we have realised our goal off financial freedom, We need to ensure it stays that way. We should stay abreast with our economic conditions and how they affect us personally. Our financial needs will change according to various life stages. We must ensure that our finances are also tuned according to the stage of our life.