Khota Paisa

Gold ETF vs Coins?

Posted in Investment by khotapaisa on December 10, 2009

In a previous post, I talked about investing in physical gold (coins or bars). This resulted in few mails/comment(s) about the advantages of investing through Gold ETFs. It is common to see people advising in favour of Gold ETFs. ETFs seem to have all the advantages and hence appear to be the preferred choice of investment. I don’t necessarily see it that way. Though there might be some fundamental risks/costs associated with investment in physical gold, it still has it’s own set of advantages.
The following chart shows you the often quoted advantages of ETFs over physical gold.

Now lets try to see if the picture is really all that rosy for the Gold ETFs.

Now that we can see that ETFs are not the holy grail of gold investment, lets try to see the effective charges of ETF vs coins over a long period. When you invest in physical gold, you typically pay 1% VAT, ~4% overhead charges and some fixed charges, in all say 6% as charges. The same charge for ETFs is around 1% (or less) in terms of transaction charge. You will also pay a fixed fee (say 1000/- per year) for storing your gold coins/bars in the bank locker. For ETFs, you will pay ~1% of the total investment as expense. If you plot the cost of investing (and holding) in gold for long term (say 10-20 years), you will see ETFs are not that cheap. The following graph show that over 10-12 years, gold coins become cheaper investment option in comparison to ETFs. This may come as surprise, but the main reason for ETFs losing in long term is the expense ratio of 1-1.25%

Even with a 4% selling overhead (not always), investment in physical gold proves to be cheaper to ETF over long term (18-20 years). For a common investor, the relative lack of ease in selling gold coin may prove to be beneficial as it would resist the non-so-rare urge to sell to cover common expenses.
Keeping in mind that gold by nature is a long term investment, it may not be that bad to buy gold coins every year.

Note : If you have a demat account &  you use (and intend to use it for long) it, I would still suggest you to invest thru gold ETFs unless you prefer the good old way of buying gold.


Public or Private Insurers?

Posted in Insurance by khotapaisa on December 4, 2009

I have got more than few mails/comments on this topic. Even I have often wondered earlier whether I should go for public insurance company (say LIC) or private ones. In theory, there is no difference. The same regulations applly to both and they are equally monitored by the concerned authorities. But then in the financial world, nothings is guaranteed to work just because there are rules. This question is more important when you go for pure insurance(term plan) which has no investment in it. So the performance of the plan is not a valid criteria for selection. To figure out an answer to this question, I downloaded some figures from IRDA site. Based on the data, I prepared these graphs. The first graph shows the ratio of annual expenses vs premium allocated. It doesn’t need rocket science to figure out the lesser the better for the company & the customers.

The follwoing graph shows the ratio of claims settled vs premium collected. So, the higher this ratio, better it is for policy buyers.
For obvoius reasons, I have not given the names of other insurers. But if you see the no. of bars (each representing one insurer) in the graphs, you will realise that it pretty much covers most of the insurers today.
Some of the differences between LIC & the rest can be explained in terms of size & age of the company. But that doesn’t make the point less valid. Also, most of the private insurers are making loss. They might start making profit in coming years, but there is no guarantee or strong sign of it.
The catch is that LIC charges more premium for the same sum insured. But then, I would say that it is better to pay a little extra if it gives you peaceful night.

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?

(Is It) A Reason To Buy Home!

Posted in General by khotapaisa on October 5, 2009

Consider this conversation.
A – “The XYZ Builder has dropped the rate for Exotic Apartments by 450/- per sq-ft. Did you know that?”
B – “Really! I didn’t know. Le’st go and see the flat then. Tell the boss that we will be back in an hour.”
A & B go to ‘see’ the flat at the Exotic Apartments and are back in an hour as promised to boss. B is very happy as he booked a flat over there by writing a cheque of 50,000/- to the builder. Congratulatons fly around with the never-missing emphasis that it really was a great deal. 
A scene like this was common just a year or so ago, albeit without the price cut. But I saw this scene few days ago. Believe me, even in this (near) recessionary period there are buyers ready to buy house like this. Now, there are two types of buying -Need-based & Trigger-based. The need-based buying serves the buyer and involves a lot of deliberation & price haggling. While the trigger-based buying serves the seller and is mostly detrimental to the buyer.
When do you buy something? Well, you buy when two basic criterea are met. One you need it and two you find the value for money. In our daily lives, we often haggle with shopkeepers, vegetable vendors and others over few rupess. But when it comes to buying a big ticket item like house, we often find ourselves writing cheques just because the house price came down(from a more non-sensical peak to a less non-sensical peak). But just because price has fallen doesn’t mean that it is value for money.
Credit is now becoming so common that one is expected to own a house by the time he/she is 30 or so. Afterall, how come you are the only one who doesn’t have a house at the age of 30? Note that this it is the same generation that has to surrender the house to the bank because after layoff it is not possible to pay an EMI of 30,000/-. Everything is fast…you buy a house after 2 years in job…you are laid off after 3 more years…you surrender the house to bank after layoff (and no job even after 3 months)…back to square one. Remember when your father first bought his house? Well, we certainly are in a different time today, but we surely need to be as much (if not more) careful about our money as our fathers.

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.