When should you start Investing?

No need for any calculations or discussion here. The simple answer to this question is – As early as possible !

WHY?

  • One- Delaying to plan for the future would mean investing more later to keep up with what you’ve missed
  • Two- when you start early, it allows you to take more risks and aim high returns.
  • Three- If you fail to plan NOW, you plan to fail LATER.

It’s always better to maximize savings in your early years. As you grow older, it would be difficult for you to commit more money due to responsibilities.

Not having enough money may not be an issue when you start investing early. Even small sums put aside regularly can build a handsome corpus over a period thanks to the power of compounding.

Here’s a simple calculation- Suppose you want to have Rs 50 lakhs when you are 55. If at 25, you set apart Rs 3,500 every month (assuming a return of 8 percent), you would be on your way to achieving this goal. But if you were to put off this investing decision by 10 years, you would have to invest as much as Rs 8,500! Setting aside a higher sum when you have other commitments would be a tough task (in most cases –effectively impossible).

Maximizing saving in the initial years doesn’t mean that you should live the life of a miser.  You must spend money for pleasures- but in a self disciplined way. Investing from early on could give you regular, handsome sums at various stages of your life. It merely postpones your spending. Begin investing now, and you might have more money in your hand in your thirties, when you may want to spend on something substantial- For example, a new flat/villa for your family.

The biggest advantage of investing early is that it allows you to take risks. What you thought would be a jackpot may turn out to be a crackpot. But, you can write it off to experience without too much agonizing. Later in your life such a loss could be expensive, and you would also have less time to rebuild your wealth and recoup your losses.

Don’t know how to find money to invest? Click here for a perfect tip. It works !

The world of investing is very interesting. Investments, if properly done, would help you earn more money than you thought. Would like to learn more? You’re at the right place. Our beginner’s lessons are for you.

Have a nice day!

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Introduction to financial ratios

Financial ratios are used to evaluate a company- Its Financial Strength, Management effectiveness, Efficiency and Profitability.

Ratios look at the fundamental financial aspects of the company. It gives you an idea about –

  • The current financial position of the company
  • where the company ranks among its peers and if it is properly priced by the market as reflected in its stock’s price
  • Overall, it helps you to decide if a particular company is worth getting involved with.

Since, ratios look at companies from the fundamental level; ratio analysis is also called fundamental analysis. Many investors use fundamental analysis alone or in combination with other tools to evaluate stocks for investment purposes. The ultimate goal is to determine the current worth and, more importantly, how the market values the stock.

There are at least 12 financial ratios you should understand to evaluate a company.

This article focuses on the key tools of fundamental analysis and what they tell you. Even if you don’t plan to do in-depth fundamental analysis yourself, it will help you follow stocks more closely if you understand the key ratios and terms.

It is enough that you understand all these ratios, its meaning, components and relevance. Most of the ratios need not be computed since these form part of the financial statements. All these ratios are available in the internet from various financial websites and magazines.

My favorite site for picking up ratios

To get all the non financial and financial datas of Indian companies, my favorite sites are -

1. Moneycontrol.com

2. In.Reuters.com

List of key ratios :

  1. Earnings per share or EPS
  2. Price to Earnings Ratio – P/E
  3. Market capitalization
  4. Price to Sales – P/S
  5. Price to Book – P/B
  6. Dividend Payout Ratio
  7. Dividend Yield
  8. Book value
  9. Return on Equity
  10. Interest coverage ratio
  11. Current and quick ratios
  12. PEG ratio

Till my next post on ratios …

……have a nice time..!!

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What is the risk involved in investing?

RISK.

In simple terms, risk is the probability of loss. Your knowledge in investing is never complete until you learn about risk and it’s relation with returns.

When we talk from the angle of an investor, risk is the combined effect of –

  • Probable Loss of money invested.
  • The estimated loss of interest, should the money be invested in secured deposits.
  • Inflation that reduces your money’s worth.

When you invest, deviations can happen from the expected outcome. That deviation can be positive or negative. If deviation happens to the positive side, that would be considered as windfall gains. The negative part is called risk. Risk is part and parcel of every investment. Every type of investment involves risk of varying degrees, which can be very low in the case of government bonds to high as in the case of stocks.

We talk from the angle of an investment, different invest assets have different degree of risk. For example – government bonds are considered to be the least risky asset and logically, have the lowest potential return. Equities are considered to be highly risky and have the potential to gie you very high returns.

RELATION BETWEEN RISK AND RETURN.

The above example also brings to light the relation between risk and return. If you target for a high return, there is an equal possibility of a high loss.  So, Higher the risk; higher the returns. What we mean to say is that risk and returns are directly related.

RISK TOLERANCE CAPACITY

Tolerance means ‘easiness’ or ‘acceptance’. I simple words, it’s your capacity to sleep peacefully when the market is falling!! Risk tolerance capacity is our ability to accept or to live with a potential risk. Risk tolerance capacity would be different for different investors. It could also vary according to one’s knowledge about investing, his emotional balance, his age and life stage , his sources of finance, marital status, number of dependents etc..  Your views about risk will keep changing with variations in these factors.

So one point we would like to say here is that, before you invest in any asset, you should have a clear idea about –

  • The risk such an  investment carries and
  • Your risk bearing capacity ( which should match with the risk of the investment)

For example – You are interested to invest in stocks. After a self evaluation, you realise that you can afford to loose only 5% of your invested fund. Naturally, a proposal from your investment advisor to invest in a stock that may move 10% in either direction will not suit your preferences. That’s because, if risk works out, your loss would be 10% of the amount invested. Alternatively how about an investment call that has the possibility to give you 5% either way? You may accept. Because, if you gain, you get 5% but if you lose, you lose only 5% which is ok with you.

CATEGORIES OF INVESTORS BASED ON RISK

Now, depending upon how well you’ll adapt to risk, you’ll either be a conservative investor or a moderate investor or an aggressive investor. Conservative investors should not invest more than 20% of their money in high risk investments like stocks. Bonds and fixed deposits will be more comfortable for them. Aggressive investors can invest 90 or even 100% of their money in high risk investments like stocks. Moderate investors should try to strike a balance in between. Asset allocation and diversification becomes more relevant for moderate risk takers. That’s because, the risk averse would concentrate more on debt funds and hence they need not think about risk tolerance anyway. The aggressive would put major chunk of their money in stocks and have high capacity to tolerate risk. Hence, it’s the moderate risk takers who will be caught in the middle. For them , it’s necessary to create a  balanced combination of high risk, moderate risk and low risk investments.

THE REAL RISK.

Sometimes, in order to achieve your financial goals, you may have to take a risk which may be higher or lower than your tolerance capacity. That risk which you should actually bear is called the real risk. For example – you have just 4 years to invest but you are targeting a return of 200%. To achieve this you may have to take a risk that may be higher than your risk tolerance capacity.

MATCHING YOUR RISK.

Your risk tolerance capacity and the real risk should match in order to take effective investment decisions. This may be a confusing process. If you are not sure about how to do this, a financial advisor should be able to help you out.

CONCLUSION.

Investors jump head on to buy investment with great potential for returns without assessing their risk tolerance capacity and the real risk. It’s easy for such investors to get burnt in the process. The rule is simple, and you have heard it many times before- The higher the returns, the greater the risk. The lower the risk, the lower the returns.

We will take up the topic of ‘optimum risk’ and allocating assets accordingly in a different chapter. Right now, at this beginning stage, it’s enough for you to understand that there are two types of risk – one from the investor’s angle and the other from the investment’s angle.

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What are the stages in investment process?

There are 4 stages –

  1. Investment style / policy
  2. Investment analysis
  3. Valuation process
  4. Right mix of investments

INVESTMENT STYLE / POLICY

This stage involves taking decisions. It involves finding answers to the following questions.

  • What’s the risk you’re willing to take? Risk and returns are closely related. The more risk you’re willing to take, the more returns you’d expect. Where do you stand – are you a moderate risk taker or a heavy gambler? Or are you a really risk averse person?
  • How much money can you set aside to invest?
  • With the money you have, what are the assets in which you can invest?
  • How much time can you wait for your investments to grow?
  • What are your financial objectives? Do you think that you will be able to achieve your objectives with the money you have decided to invest? If yes, have you arrived at that decision by calculating the returns at a reasonable rate?
  • If your answer to the above question is ‘no’, how would you strike a balance? Will you bring down your financial goals by cutting off certain goals or would you try to increase your investable fund?
  • If you decide to invest in different assets like shares, real estate, gold etc.. How much are you willing to allocate to each type of assets and why?
  • Would you like your investments to be actively managed? That is, would you like to utilize the services of investments experts who would do their best to extract maximum gains for you using their expertise and experience? Are you willing to pay for their services?
  • If you’ve decided to take the stock market route, would you adopt a growth investment strategy or a value investing strategy? Or would you try to strike a balance in between ? Whatever may be the style you adopt , would you prefer to invest in a mix  large caps , mid caps and small caps or would you like to stick with one category?

Finding answers to the above questions would reveal your preferred investment style.

INVESTMENT ANALYSIS

A Comparative analysis of your chosen mix of investments. This would help you to decide whether the mix is optimal to achieve your goals.

  • At the base level it includes the analysis of your chosen investment asset – equity, debentures, bonds, commodities, real estate etc..
  • Broader level analysis would include analysis of the economy and industry, qualitative and historical analysis.

INVESTMENT VALUATION

This is the most important part of investment. Valuation is the process of estimating what the assets is actually worth. Valuation can be done for all assets. It is an attempt to determine the ‘reasonable price’ at which an asset can be bought so that it increases in value over a period of time. It is quite different from the ‘market price’ which is what a willing and able buyer is prepared to pay.

For example – if a builder offers an apartment for 65 lakhs, would you blindly buy it without analysing the builder’s track record and the facilities offered? Won’t you try to find out why he charges 65 lakhs for that apartment? Finally you would buy that apartment only if you find it attractive at that price. It is an individual decision after considering all the factors.

The same process needs to be done in any form of investment – whether it’s shares or mutual funds or commodities. You have to make sure that the asset you get is worth the money you spend.

RIGHT MIX OF INVESTMENTS

Putting all the eggs in one basket is not a good idea. There are some people who think that putting it all in one is better since they can concentrate on it and escape from the trouble of carrying multiple baskets at the same time. That’s a very wrong approach in investments and it needs to be corrected.

For example – if you put your money in real estate alone, should the real estate prices crash- as we saw 3 years back, you’re locked up with no other options. Instead, if you had your money diversified in stocks, gold, real estate etc you’d be better off since when your money goes down  in some, you gain in another and thereby reduce the risk of losing all your money.

Deciding the right mix is technically called ‘portfolio’ and managing it to achieve maximum results- in terms of risk reduction, capital preservation and returns is called ‘portfolio management’.

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