Khota Paisa

Risk Profile & Asset Allocation

Posted in Investment by khotapaisa on November 27, 2009

For portfolio planning, the most important criteria is said to be asset allocation. The asset allocation is always done on the basis of the risk profile of the investor. This may seems pretty simple & logical but it is the most complex part of portfolio planning. By nature, risk profile is not a measurable entity. You can empirically judge it but that leaves it open to interpretation. And this makes the asset allocation difficult. Even though I agree with the concept of asset allocation based on risk profile, I could never use it in pratice (to my satisfaction). First of all, how do you judge risk profile? The simplest answer goes like this – How much loss in your portfolio will trigger your worry? Basically, how much loss before you start thinking of withdrawing your money? This might be an easy question but you are sure to get different answers from the same person at different times. Or you will get different asset allocations for an investor from different investment planners. This exactly is the art part of financial/investment planning. While asset allocation itself plays an important role in the performance of the portfolio, the basis of allocation is always questionable. This area is so fuzzy that I suggest you don’t worry about it much. Now, that doesn’t mean that you shouldn’t diversify. You must do it but without worrying about your risk profile. You can keep it easier by limiting your exposure to few asset classes like equity & debt (with little gold to add shine to it). You can allocate investments based on investment horizon. Anything for more than 10years goes fully into equity. Anything with less than 5 year horizon goes fully into debt. While this method can be questioned, it will allow you to keep your portfolio simple without hurting much on returns front. But then you shouldn’t invest to get the best returns. you should invest to achieve financial goal(s) assuming a decent(<15%) return on your portfolio. Any gain you have over and above the assumed return should be moved into debt instrument. This will allow you to increase your exposure to debt over time as well. You can try to do this exercise (rebalancing) once a year.

I think that the biggest enemy of an investor is greed. If we don’t run after higher returns, we will be cutting our risk considerably. As long as your investment is giving you a planned return, you should not even bother to look for other better performing instruments.

How To Invest In Gold?

Posted in Investment by khotapaisa on November 23, 2009

I have been planning to invest in gold for some time now. The cheapest way for me to invest in gold is thru gold ETFs. But I have not gone the ETF way as I don’t plan to keep my demat account. That brings the question of alternative ways to invest in gold. If you don’t/can’t invest in gold in demat form, the only other way to own gold is buy it in physical form. You can do it by buying it either in form of jewellery, coins or bars. But buying gold in physical form is a costly affair for the following reasons.

Premium : Whenever you buy any gold item, you pay the making charge, wastage and tax (as VAT) on it. This increases the cost of gold for you because when you sell gold, you will be paid only for the amount of gold. To minimize this cost, you should buy gold coin or bar as they have the least making/wastage charge.

Safety : This is the most important reason against owning gold in physical form. If you plan to invest in gold, you would typically be buying it regularly over a long period. Over a period of time, you will have enough gold with you to worry about it’s safety. So, if you own gold in physical form, you must have bank locker facility available to you.

Selling : Selling gold is as complicated as buying it. You would find it easy to exchange gold for jewellery but it’s not that easy to sell it for cash. On this front also, gold coins & bars provide better option. Some gold retailers like Tanishq buy gold coin (preferably of their own make) easily and pay in cash. But even when you get to sell it for cash, you will be paid thru cheque or DD. Though it may not be an issue, it certainly adds to your effort & time.

So if you are one of those who don’t/can’t buy gold in demat form, keep the following in mind while buying gold.

– Buy gold coins or bars.

– Find out the rate of gold coin/bar (22k or 24k) from different retailers.

– Avail bank locker facility for storage.

– Buy periodically in small amounts.

– Invest in gold over a long time and just hold it. Afterall, selling gold is not considered good (not without reasons).

– Let gold bring luck to you.

Funds – Going The Online Way

Posted in General by khotapaisa on November 22, 2009

SEBI recently issued a circular stating thet funds will be allowed to be transacted electronically. This will allow the fund distributors to sell/redeem funds electronically. This is going to compliment the existing paperwork route available. So, how does it effect the common investor? Well, I guess it doesn’t add much value to the investor for the following reasons.

– Investors can buy/redeem fund online even now using services of various fund distributors like ICICI, ShareKhan etc. So for these investors, it doesn’t make much difference.

– Investors who go thru the paperwork (filling up the form & giving it to agent etc), would not see much value add for moving towards online transaction, specially those who don’t have existing demat account.

– Funds, unlike stocks, are not traded. They don’t need quick order execution and timing. So, the advanatges of transacting online (timing, hassle-free trading etc) don’t hold good for funds.

– Most of the investments in funds are done offline via distributors who also provide recommendation. This is in contrast to stocks which are traded based on tips & trends and are time-critical.

Having said that, the move to allow online fund transaction is not without merit. The biggest advantage of this move is the exposure of funds to a larger audience. With online fund transaction, brokers will also be able to sell/redeem funds. Since the people who invest in stocks are many times more than those who invest in funds, there is a large untapped audience for funds. This audience will now be reachable via stock brokers.
Overall the move, though not of much value to investors, will significantly help in broadening the investor base of funds. What needs to be seen is how the funds are received by traders (read the common stock investors)?

The Risk With Mutual Funds

Posted in General by khotapaisa on November 9, 2009

Unlike common perception, mutual funds are not the silver-bullet of personal finance. They carry some inherent risks which are not apparent. I would try to list out some risks that mutual funds carry. It would help to keep it in mind during fund selection.

1. Herd Effect – Fund managers are like cattle herd. If one starts running in a direction, all will eventually follow. This is not unique to Indian fund managers. It happens everywhere. So, why are we charged annual fee (known as expense ratio) for managing our money? It makes sense to pay someone managing your money actively, in other words acting in your interest. But why should I pay someone to follow the herd? The herd metality of the fund manager also makes the fund less efficient and flexible making it more prone to market volatilities.

2. Size Matters – We tend to invest in funds which are large, assuming that large fund tend to be more stable. In contrast, large funds don’t always operate in the interest of retail investors as most of the investment of large funds comes from corporates (that too in large chunks). Let us say a big company invests a large amount of money in fund X. After sometime, they want to withdraw it. Since the amount is significant, the fund manager may have to sell investments which have long term horizon. This has adverse effect on the return for the remaining fund investors.
Another problem with size is that the large investors (corportaes) tend to influence the buying decisions of the fund manager. So, if Company X decides to put 500Cr in fund M, they fund manager will be expected to enforce his/her exposure to the shares of Company X. In simple words, I put money in your fund, you buy my shares.
Studies in U.S.A have shown that in mature markets, small to mid-sized fund outperform large fund on regular basis.

3. Fund Performance – The goal of a fund manager whould be to add value to the investor’s money. It means that the fund manager should allocate assets and manage them with long term horizon. Short-term volatilities should not influence his/her portfolio. But that is exactly what doesn’t happen. Most of the equity funds overhaul their portfolio more than once (many times) a year. The managers also take the short term fund performance as the one and only performance indicator. This is adverse effect for long term investors (real investors).

Insurance – Not For A Common Man

Posted in Insurance by khotapaisa on November 7, 2009

In the world of insurance, there are countless types of products. Each offering a unique set of features to attract the investors. But all these products are designed to benefit the insurance companies, not the investors. Surprised! Don’t be. Let us go thru some of the hot-selling insurance products in market.

1. ULIPs  – Without going into details, let me tell you that ULIPs have been the costliest insurance products of all. Now how does it go with the fact that they are the most sought-after products! If you are interested to know the ULIP story, you can follow the link here.

2. Endowment Plans – These are classic insurance plans which were the only insurance product we Indians knew of till ULIPs arrived. They typically pay you < 5% return. 5%! Would you go for a FD offering the same return today?Though common sense says that there is no reason you should be buying this kind of products, there are some execptions.

3. Other Exotic Plans – Some of the exotic plans in market are guaranteed NAV plans, ULIP based health plans etc. These are some of the most complex insurance products out there. But why would someone launch such complex products? Well, it is made to be complex to hide the various holes thru which the insurance company skims you.

The only product that is designed for the common man is the pure term insurance. Ever seen an insurance agent trying to sell a term plan? Let me know if you ever see one! After all what do you expect the insurance companies/agents to sell you – A products designed to benefit you or A product designed to benefit them?

Moral of the story – If it’s being sold to you, it is designed not to benefit you.

Are You A Rich Person?

Posted in General by khotapaisa on November 1, 2009

Not so long ago, there was a maid servant who used to work in our house. One day while talking to my wife, she told that she had saved a certain amount over the last 10 or 15 years she had been working as maid. This money was saved totally out of her own earnings. As his husband was earning, she would save as much as she could from her earnings. When my wife told me about it, we realised that she actually had more money than we had at that time. To put it into perspective, my monthly earning was half of her total savings. How is it possible? How can the employer be poorer than the servant? How can a income-rich person not be networth-rich? Well, this is exactly the two types of rich we see. An income-rich person is one who has a good income (not necessarily fat bank balance…like me) while a networth-rich person is one who has a healthy saving. I was an income-rich person but I never saved. I would buy anything I wanted or needed. I always had the latest mobile, the latest camera etc etc. While I never felt short of money (except one period I must say), I never saved money. As a result here I was with less money in bank than my maid-servant. I had wasted all these years in buying things. Things which are worth penny the moment you pay for them…a mobile costing 10,000/- has a resale value of around 2,000/-. In effect I paid 10,000/- for an item that was worth 2,000/-. No wonder that the financially-literate maid had more money than the financially-illiterate sahab.
So, how do you figure out if you are on the way to become rich? I did some calculations and figured out a thumb-rule. Take your current annual salary/earnings(in lacs) and multiply it by no. of years in job. Then divide it by 10.  If your networth (in lacs) is  more than the score you get, you are on the right track. I don’t score good on this scale though. How do you score?