Khota Paisa

How to Select Funds?

Posted in Investment by khotapaisa on September 21, 2009

There are many ways to select mutual fund(s). No two advisors will give you the same answer. Some of the commonly accepted criteria for selection has been past performance, fund manager, size etc. I would try to list out some which I think are suitable to the common investor. Note that this fund selection criteria is applicable to investors who wish to invest for their financial goals, not just for wealth building. It means that for this type of investors, getting the maximum return may not be the best choice.

Old is Gold – Don’t select a fund which is less than 3 years old. The reason being, that the historical fund data is important for evaluation. It is not just the historical returns of the fund which is important but also the consistency of the fund.

Consistency Pays – There are two parameters which should be looked into. One is the historical return of the fund and the other is the volatility of the fund. If your goal is to build wealth, you should pay more attention to the historical returns. But if your plan is to achieve your financial goal (e.g. education, marriage, retirement etc), you should consider the volatility of the fund. This is measured by SD (standard deviation) of the fund. The lower the SD of a fund, the more stable/predictable it’s return. Once you have this information with you, shortlist funds which have the comparatively low SD with better than average return. It may not be one of the best funds in terms of return. But so be it. It’s better so invest in fund with average returns and low volatility than one with high return and high volatility.

Diversify – The meaning of diversification can be different for different people. There are a no. of attributes of a fund on which you can diversify. To make it simple, whenever you add a new fund to your portfolio, check out the top 5 holdings of the fund. If the existing funds in your portfolio give you enough exposure to these companies, you should not consider this fund. In addition, while selecting a fund you should make sure that the fund is not top heavy. Top heavy means that most of the fund investments are in its top 5 or 10 holdings.

Here are some sites which provide you with the necessary data on the mutual funds.

www.moneycontrol.com
www.valueresearchonline.com
www.morningstar.in

ULIPs – Towards A Bright Future

Posted in ULIP by khotapaisa on September 20, 2009

Few days back, I was talking to a financial advisor. During the course of discussion, he told me that from year 2012 onwards there won’t be any charges on ULIPs. Basically, ULIPs will be on the same level as the mutual funds today. I am not sure how correct is this but I would be delighted to see it happen. This, in my opinion, will be the single best development in the investment world till date. This may sound like an over-statement but let me explain you the reason. Of all the investors who invest in equities, a large majority are the salaried class. In fact people with lots of money hardly invest in equities. They just put all their money in FDs. The reason why a common salaried person invests in equity is that he/she has to fulfill his/her financial goals (child education, marriage etc) which can’t be achived just by the current income source(s). Owing to the eagerness to earn more thru euqities, these investors end up chasing return. This results in a regular crunching of portfolio which eats up all the returns. So the single biggest enemy of the common investor is the churing in portfolio. And this is where the ULIP comes to the rescue. Unlike mutual funds, ULIPs don’t provide the option to churn. It also brings a certain level of discipline in the investor. With all the charges gone, ULIPs may well become the preferred choice of equity investment. At least I would, then like to see people prefer ULIPs over MFs.

The Impact of Home Loan

Posted in General by khotapaisa on September 14, 2009

Yesterday I saw a movie “Fun With Dick & Jane” on TV. The movie is about a V.P. of a big company. He has a big house, a luxury car and every other thing that defines luxury. One day he goes to office only to be told that the company has collapsed. He comes back home(rather happy) thinking that he will now have some free time before he starts in his new job. Months pass without job and he reaches a stage when he has no money and no job. All his savings are gone now. His stocks (read ESOPs) are worth penny. He now decides, along with his wife, to slowly start selling all big-ticket items in the house. This starts with his BMW being traded for a cheaper car. Then the large flat-screen TV is goes out followed by other household appliances. After few months, there is no worthwhile item left in house to trade for. The movie continued thereon but I realized that this is a very possible scenario for many of us. From the industry I come, it is even more plausible. Imagine someone earning 90,000/- per month. He has a home loan EMI of 40,000/- in addition to a 7,000/- car loan EMI. His overall monthly expenses are around 35,000/-. Now if this person looses job, he will need 82,000/- per month to take care of his basic needs. Even if he cuts back on his household expenses, he will still need anywhere around 75-80,000/- per month just to survive. Assuming that he has 2 lacs in emergency fund and another 5 lacs in stocks etc, he will run out of money in about 9 months. In fact most of the people who take home loan early during their career, are usually left with no money as they put their savings as down payment. Fortunately in India, we have a safety net called family. We can get much needed money from our parents, brothers etc. But how would someone be able to fund a 75,000/- per month expense?
On the other hand, if he had not taken a big home, his monthly requirement would have been around 45-50,000/- (including rent of 10,000/-). This would mean that he had about 15 months to look for job.  He also has the option of going for a lower rent to sustain longer. It shows that buying a house early in your career may not necessaroly be a great idea. You should buy house only when you can afford to pay a significant amount as down payment. This invariably means that you wait for 10 years or more in job before planning to buy a home.

The New Face of ULIP

Posted in ULIP by khotapaisa on September 11, 2009

IRDA recently propsed capping of charges on ULIPs. As per the new proposal, the total charges on a 10+ year policy can’t exceed 2.25 percent while the same can’t exceed 3.0 percent on a 10 uears or less policy. It excludes mortality & morbidity charges. Let us now try to see what impact it will have on the investors. Even on a cursory look, it is clear that the effective return of ULIP plans will improve because of the cap on charges. To understand it better, let me take an example of an ULIP, say SBI Unit Plus II. 

Sample policy details –

Annual Premium : 25,000/-
Policy Duration : 20 yrs
Investment : Full Equity
Maturity Value (@ 10% RoI): 1,084,069/-

If we apply the proposed cap on charges, the investor will have a maturity corpus of about 1,112,500/-. This is an increase of ~2.5%. While it may not be a large gain, it will be much higher for most of the existing ULIPs.  This is so because this ULIP has comparatively much lower charges. Overall, it is going to be very beneficial to investors and help move ULIPs a step further towards competing  with mutual funds.

Should You Invest In Gold Now?

Posted in General by khotapaisa on September 10, 2009

Looking at the kind of return gold has been giving, I was feeling tempted to invest more in gold. I still feel that gold would go higher and even at this stage it would be profitable in short term to invest in gold. But knowing that my current exposure to gold was sufficient, I managed not to invest in gold any further. Since this investment won’t be towards any of my goals, it would be only be serving my temptation to make few easy bucks. And this is exactly the risk taking attitude that a common investor should avoid.

That said, you can still start investing in gold if (and only if) you plan to invest a small amount for a long time. Rememer that Gold is a passive investment. Hence you souldn’t invest in it to maximise your portfolio return. Gold is a good hedge against inflation. It is the best hedge against disaster. It means that when you invest in gold, don’t do it for returns. Invest and forget. It also offers a good diversification as it has a negative correlation to equity. When equity goes up, it goes down and vice-versa.

Few Useful Financial Tools @ InvestmentYogi

Posted in General by khotapaisa on September 5, 2009

Here are few useful tools from InvestmentYogi.com. Please try these and let me know your feedback.

Retirement Calculator

Insurance Calculator

They have few more tools like these which I will be posting later.

The Power of Staircase Investing

Posted in Investment by khotapaisa on September 3, 2009

Let me first tell you what staircase investing means? It simply means that every year or so, you increase your investment based on the increase in income. So what is new about it? When you plan your finance (say for the next 25 years), you basically try to forecast. And the forecast (as always) is based on certain assumptions. These assumptions may or may not hold good over the investment period. The most critical of these assumptions is the return on investment, typically equity. Some planners will use 15% for planning your finance while some will prefer to assume 12% as the return on equity over long term.  Very few try to assume that your income will increase at say 6% every year. Even if they do consider it, this assumption is never an integral part of the financial plan.

Which do you think is more probable to happen, say over 20 years – A 14% return on your equity investment OR a 7% average yearly increment in your salary? The fact is that the increment in your salary is way more likely to happen over long term than any return in equity. A back-of-the-envelope calculation shows that over the last 30 years, the average  yearly increment in goverment salary is around 11-14%. Difficult to believe, isn’t it? But look at it in a different way. Your salary has to increase to cover for inflation. And the increase is much more in private sector. So, it is much safer to assume that your salary will increase at a rate of say 7-8% (if you prefer to go with inflation) than assuming that you will get 12-15% return from equity over long term, say 20 years. And this is aplicable to government employees as well. Only that in this case the increase in salary will be every 6 years or so. But it will average out over long term.

Try it out youself – Ask you father what he earned when he started his job and what salary he drew last. Then try to calculate the average yearly increase in salary. I am sure you will get a double digit figure.