23 April, 2009

Investor's psychology

Many of the Investors have a love-hate relationship with the stock market. Currently, they are hating it. Investors need to appreciate the common mistake many of them are prone to, avoid them and embrace good habits & thought patterns which will allow them to enjoy life, instead of being a prisoner to nagging fears about their future.
Going with the crowd - Investors typically do not want to be the lone tiger. They instead want to belong – want to be a part of the crowd which moves as a pack. Following the herd has problems, though. Many times, the crowd moves in a direction that may not be right. Also, it can never be that one type of investment behavior is going to be good for all – obviously, many of them are doing it as the next man is doing it. When following the crowd, one also gets into a false sense of security - since everyone is doing the same thing, it cannot be wrong – the majority can’t be wrong. Indeed the majority can be wrong.
Lack of moderation – Alan Greenspan calls it “irrational exuberance” to describe people getting carried away and pushing the markets upwards, inspite of no compelling reason to do it. This takes the stock prices over the moon. But the optimism in investors heart still continues to rage. They invest all they could and even take loans to invest. Lot of them are licking their wounds today. And they have swung to the other end of the emotions spectrum – “enveloping gloom”.
Retracting into a shell - When the markets have deeply corrected, the equity & MFs get back into “good value” zone. So, are the investors celebrating? Not a chance. They are infact scared that it may fall further. But there was a chance of fall even at 20000 points ( of Sensex ). Yeah-right. If anything, the chances of falling after a dizzying climb is much more than at 10000 sensex. But somehow, investing at the height of the bullrun looked different. The gut-wrenching correction has scared the wits out of them. No one is talking of this opportunity to invest, now that it is low. On the contrary, there are any number of theories as to why the markets will go down further. So, many have got scared and have pulled out at a loss – out of sheer paranoia. Moderating their Investment when they should not invest and not investing when they should, is a common enough problem with investors.
Watching from the sidelines – Investors who have been scalded by the meltdown would typically wait and watch, even though they may realize, at an intuitive level , that the valuations are attractive. This is the fear factor at play. There would be many around the investor who will dissuade him/her to move ahead and invest. After a point, they would even forget to follow the markets. The markets in the meanwhile will mend, overtime. And like a roller coaster on the upcurve, people will hear the rumbling later again and notice the beast on adrenaline. And they would enter - again. This has been happening over and over again and again in cycles, over time. Some are eternal fence sitters and will keep wondering whether it is the right time to invest - in all markets.
Going after the flavor-of-the-season – Another typical investor trait is to go after the latest fad – be it Gold, Midcaps, Goat farming, teak plantation... Again the investors find solace in the collective wisdom of those around them. That’s why you will suddenly find a pyramidal marketing scheme, all the rage. Decision is easy if it just has to be a ditto of what their neighbor or friend has done. But that does not mean that the decisions are right or even suitable to the investor. Most investors do not spend the time to study and understand the investments that they are getting into, which is vital.
Investments for investment sake – Many investors just invest without any thought of where the money is being put. Sometimes it is in insurance, at others in chitfunds, bonds, some IPOs etc. Sometimes, they invest in pension funds and at other times in a child policy. Random investments like this becomes unwieldy, undesirable and may not give the investor the returns that they need to meet their goals, may have more risks than the investor had bargained for and may not meet the liquidity requirements.
Going after favourites - Some investor play favourites. They know certain asset classes and are convinced about them. These investors will only invest in them. For instance, there are many I have come across who are sold on real estate. These investors will only invest in real estate to the exclusion of all others. That leaves their portfolio concentrated and vulnerable.
Lack of diversification – A concentrated portfolio is vulnerable to shocks due to the huge exposure to specific asset classes. This kind of a portfolio can make or break a person. Though some may be lucky, even with a concentrated portfolio, it is a better idea not to push ones luck too much and instead have a well-balance portfolio. The huge risks involved in a concentrated portfolio, is not fully appreciated by many investors.
Asset allocation – Risk, return & effect of tax and inflation is not commonly factored in while investing. Proper allocation of assets decreases risks, increases portfolio return, makes it more suitable to the investor concerned in terms of liquidity, tenure, timing of payments, ease of operation etc. A proper asset allocation and rebalancing them from time to time, brings in the discipline and ensures that the investor does not go overboard, due to their personal prejudices.
Post tax returns – Most talk about just the gross returns as if it is their effective return. So much money would probably not flow into fixed deposits and other small savings investments, if the effect of tax is understood and factored.
Risk factoring – Stock markets are always risky – but the risk in the system varies at various points. For instance, the risk of the markets doing a dive is comparatively lower now, as it is gyrating around 10000+ sensex levels. At higher levels, risks were higher. Yet investors were happy to invest when the index was near it’s zenith , than now. Also, risks have to be taken in relation to one’s age, situation in life, time horizon, proportion of assets that will be exposed etc.
I hear from people that they are scared because they do not know, what to expect. True. The most important dampener at this point is the uncertainty enveloping the environment. The economic outlook, the extent of any further economic shocks, job scenario, market performance - are all uncertain right now. But then, the investor needs to follow the basic principles even more diligently than ever, in this market, to survive and emerge stronger. Most importantly, one should avoid the pitfalls.

Published in Business Standard on 19/4/2009

16 April, 2009

Why are the rich, rich?

Or to put it in other words, how does one get rich? This world would be a fabulous place if there were a success formula for this… for if we follow those seven or ten steps, we can be rich, right?

There is no success formula like that unfortunately, as you might have guessed. Then, how come some get rich and others seem to be plodding along life, without ever getting lucky?

There are certain characteristics & patterns which people who end up being rich have. That should give pointers then about why they become rich, in the first place.

Looking at opportunities

There are lots of problems plaguing the world. The security situation is bad, for instance. There is so much poverty. Dismal, right? It depends on how you look at it. Some look at these as opportunities. Every problem is an opportunity waiting to be solved. And, the problem solver becomes rich in the bargain. One looks at the sun and cribs that it is too hot. Another thinks it is a good idea to install solar water heater & solar panels, to harness this solar power!

Security agencies & companies selling security devices ( like access control, surveillance systems, motion sensors etc. ) have sprouted – started by those who smelt the opportunity and came with a solution. Nirma was an answer to cleaning clothes in hard water. Google is an answer to the problem of finding accurate information on the internet. The founders are now billionaires. Problems abound and hence the opportunities. It’s how one looks at them.

A positive Attitude

Your attitude determines your altitude is a saying, we have heard before. Probably, the rich have internalized it. They have the spirit of making things happen. They know that everything is possible and can be made to happen. They have no use for doom-sayers, of whom there is no dearth. Their can do spirit itself becomes a force to reckon with and helps them in pulverizing the hurdles.

Hurdles & roadblocks

Hurdles don’t deter them. They are merely that- hurdles... which can delay their goal, not stop it. They work on it - get over it, under it, around it… they surmount it, neverthless. They have a missionary zeal and dogged perseverance & even some amount of ruthlessness in their mission to reach their goal. I have heard that a 2nd grade idea will work, if the person working with it is top grade; but even a top class idea cannot succeed, if the person working on it is 2nd grade. Whoever made this statement is probably referring to the ability to fly around storms, as much as the person’s caliber.

They don’t focus on becoming rich

Those who think like the rich, do not have the goal to become rich. They are focused on coming up with a solution to a problem, which is the opportunity they are cashing on. Or they pursue their destiny in their chosen field, with gusto. Money is essentially a byproduct of a job well done. They know that.

Looking for Value

The common perception is that rich have money and can splurge. They, infact, look for value. They are the ones who may ask searching questions about warranties & free service options before buying a car. They are the ones who may opt for an extended warranty, even if it means some additional upfront payment, for they know that it would deliver better value, over time. Total cost of ownership is something which IT companies spout – to indicate the total costs a person may have to incur, during the lifetime of the product. This is innately understood by the rich. They look for value, not necessarily for something that maybe available cheap.

Confidence in themselves and in their ideas

No one can succeed without this. The rich may seem smug, even cocky. But that stems out of self belief, their unshakeable faith in themselves and their ideas. They throw their entire weight behind their idea & channelize all their energy and resources to make it work. That can only happen when one has total faith in themselves and their ideas, especially in the face of nay-sayers. Ratan Tata & Tata Motors were almost written off, when he wanted to launch Tata Indica. He went ahead anyway, put up a Rs.1,700 crore plant and created history.

Making mistakes and recovering from them

It’s not that they don’t make mistakes. In spite of the best efforts, sometimes they fail. It will be devastating personally & financially. But then, one needs to stand up again, dust off and move forward. The rich seem to be cast in that mould. They learn their lessons and move on. Edison is supposed to have said that he knew a ten thousand ways a bulb won’t work, when he failed each time trying to make a light bulb. But, ultimately he succeeded. He is credited to be one of the most prolific inventors of alltime.

It’s difficult to define them, typecast them. We could all learn from them. There are many other traits that they possess. They keep looking for new horizons to soar into, new avenues to explore. We in India, have a socialistic bent of mind. We think being rich is evil. It’s time we learnt from them. Those that are rich or are in the process, become rich and make a difference to others by solving problems, others are just bogged down by. Think what we would have been without the humble electric bulb. Or without the airplane, had Wright brothers just given it up as a lost cause.

Published in DNA Money ( Bangalore Edition 15/4/2009 ; Mumbai edition to follow )

Image: FreeDigitalPhotos.net

10 April, 2009

Money saved is money earned...

Money saved is money earned is an epithet that had struck a chord in the generations gone by. That is old fashioned today. Now, it is a cocktail of individualism, hedonism and indulgence, in a heady mix. That should be fine, within bounds. But then living the good life is costlier than ever before. There is an ever increasing array of products & services that competes for attention today.  And their price range can be a wide swathe too. Gone are the days when you would go to a shop and order a TV, ranging from 14” to 29”, costing upto Rs.30,000/-. Now, you will have to first decide if it is the regular CRT, LCD or Plasma, that you want. Then you need to decide the resolution, HDTV or normal, ability to play different signal formats like PAL, compatibility to play different file formats etc. The price varies all the way from Rs.6,000/- to Rs.3.5 Lakhs!


What does that tell you?  The decision making is complex and the price band is like the Grand Canyon. You could easily tip in to a desire in an unthinking moment and end up with a white elephant.  Many do.  That is why the salary, any salary, is not enough. And we keep waiting for increment, so that we can change the job after that and get some enhanced leverage! But even that does not help. We have done that many times, haven’t we?


If that is not helping, what is the problem and the solution? The problem is elsewhere. Not enough money is just the symptom. The problem is of expenses ballooning too fast, in comparison with the income. We do not seem to be putting enough thought to rolling back expenses, as much as we are obsessed on increasing the income. Expense reduction is seen as uncool. But then, if we are prepared to take a more serious look at it, it might instead be cool.


Ethiraj typified the y-gen – cool attitude & rocking lifestyle. He was earning very well and he had a knack of spending just as well!  His forty grand take home was more than his wants by four thousand.  Only last year, he was earning thirty thousand and was able to put aside five thousand for his further studies.  One year later, that is down to four thousand, inspite of the salary increase. It is threatening to halve to two thousand. Ethiraj is panicking now. He needs to send that five thousand home. He is searching for another, better paying job.


Now let us see if that would help. Let us say, he gets another job at forty five thousand a month, it will temporarily ease the situation – leaving him a surplus of about seven thousand. But if his track record is anything to go by, that would taper precariously within a year. Fundamentally, earnings are not a problem with him, expenses are.


In the current situation where he saves just Rs.2,000/- against his expenses of Rs.38,000, savings as a percentage of expenses is just 5.2%.  Let us now assume that he decreases his expenses by Rs.5000, instead of looking out for a new job. He will have Rs.7,000/- as surplus now. His savings in relation to his reduced expenses would be then 21.2% - a major improvement.


Now let us say, he does not want to touch the expenses. He jumps to another job offering Rs.5,000/- more. His savings are Rs.7,000/-, even here. But in relation to the expenses, it is only 18.4%.  Even here, if one wants to maintain the same savings to expenses ratio, the salary increase needs to be Rs.8,060/-, instead of Rs.7,000/-.


When a person takes the proactive step of reducing the expenses, which are threatening to spiral out of control, the basic problem is addressed and hence the future situation would improve. When the shortcut of a job switch is opted instead, without addressing the core problem, it will at best be a temporary measure. The festering problem would show up again probably in a more serious form and may require an operation!


When expenses run amok, you need to see it in the eye and tame it. Else, the animal becomes the master and the master, the slave.   





Have you ever wondered why self-help books are almost always from America? Ever wondered why even Indians like Shiv Khera & Robin Singh and  authors of other countries,  start writing when they land up in the US? 

Most of these self-help books border on the philosophy of a fulfilling life, mostly through knowing how to make money. We are supposed to be big on philosophy. But not much is written here which a normal person can use to better his mundane life. Not counting “ Count your chickens, before they hatch”, nothing much of the inspirational / self-help stuff has come out of India.

How come?

US is an idea – an idea that you dream about & realize – something like what Mumbai is to us. It is a state of mind – an attitude. US is capitalistic. It means dollars. It sells dreams – it’s Hollywood, it’s lifestyle…

And most of all, US worships money. Their attitude towards money is different from ours.

US embraces money. They create it ( dollars ). They have been able to sell it till date, effectively. With the US economy in tatters, the dollar should have plummeted, right?  But the dollar has appreciated – against all major currencies… because US assets ( treasuries are a proxy for the dollar itself ) are seen as safe havens, in times of distress. Fancy that!

Inspite of an economy that has been driven into mud, it is seen as the asylum of the last resort!  Such is the aura that US has created.

All economies with surpluses in their books have US treasuries in their books – China has over $600 billion. US needs to sell more to China & others to keep it’s economy afloat – and it will.

It’s their Attitude!

We Indians think in terms of rationing, deficits… They are weaned on a dream of abundance – of possibilities sans limitations, of opportunity for all.

So, is it any wonder that they come up with all these amazing self-help books.  “The Secret” is one of the recent ones, which is a mix of philosophy, attitude & power of the mind – all bundled into a beautiful, eminently readable book.  US is good at packaging – they are the dream merchants, you see.  The book talks about possibilities – it talks of the possibility of making your dreams come true - be it mansions, cars or other bling-blings.  It draws on the power of positive thinking & auto suggestion. So here is a book on how to just harness the energy in the Universe into fulfilling all your dreams & desires through what the author calls “the law of attraction”. I was mighty impressed with this book – not because of what it said – but how nicely it has been packaged. I fully agree that it will work for those who implicitly trust in their power to attract their destiny.

In Hinduism, we talk of total surrender to the Lord, after which your every need is taken care of by the Lord. We also have heard of why we should keep talking positively as anything uttered by us – good or bad -  is blessed with Thathhasthu or so be it.. That is why, our elders keep saying that we should keep talking positively. So, this is not new territory for many of us. But this philosophy has been made accessible & it’s applicability in a normal joe’s life has been explained and has been made more powerful with annotations and real life examples. Instead of the arcane surrender & talk positive routine, Rhonda Bryne, the author, has outlined what is in it for you and how to make it work, in the typical American style. Though she talks about many facets, achievement of material nirvana predominates! She quite credibly  gives the positive & powerful message that Everything is possible.

“Rich Dad Poor Dad” is another one of those books which uses the commonsensical approach to money and addresses our fallibilities with his creation – the poor dad. It talks about risk taking, approach to money, attitude towards money, success etc. Again a practical & eminently readable book.

These are books that America produces – books that propagate hope. They convey that powerful message that you have the power to change things, wherever you come from. That’s  an attitude. And America is probably what it is, due to that attitude - that everything is possible.  So many of them have internalized it and have lived the American dream of making it big. They are still the richest nation in the World and they even make the money that makes the World go round! 

We need to learn these things from the US – their never-say-die Attitude and their attitude towards money.  Not for nothing is the US the most powerful & influential nation in the world. Money talks. Let us get this first. 

Term insurance provides the cheapest form of life cover for policyholders. Financial planners have been stressing on this point so that an insurance seeker can keep their investments and insurance separate. And while many have recently woken up this fact, the strategy used may still require some tweaking. The way one structures life insurance requirements through term plans, can ensure that they pay lesser premiums without any reduction in their life cover requirements. Let us look at how this could be done.


Typically, as the number of years in a policy passes by, the need for insurance goes down. That is because, the income that needs to be covered keeps reducing with every passing year. This means that the insurance requirements would have reduced in the next year, on survival. 

Also, savings and asset buildup may have taken place in that year, which again decreases the risk exposure to the family.  As the number of years of life cover required reduces. Simultaneously, there is asset buildup and savings which happens in this period, which reduces the need for insurance. Since insurance is a tool to cover the risk financially, the cover requirement keeps coming down, year-on-year, as the residual present value of future potential earnings, keeps coming down.

One of the important facets of term insurance policy is that the premiums go up as the number of years increase. This is unlike any other policy where it goes down – that is, higher the term, lower the premium. If you were to look at the table, this will become clear. Let us say Manish wants to take a 20 Lakh cover. For the same cover, Manish needs to pay Rs.6,313/- for a 5 year term, Rs.6,776/- for a 20 year term and Rs.8,097/- for 25 year term. This is because the mortality charges go up year on year. The longer the term, the higher will be the average charges for all the years covered.  In an Endowment or a money back policy, the longer tenure policies have lower premiums as the life cover itself in the policies are low and bulk of it goes for investment. The longer the client pays, the more beneficial it is in these policies.

Given these facts, it makes sense to split your life insurance needs by buying a number of policies instead of just one. Let us understand this with an example. If one requires an insurance cover of Rs 1 crore for 25 years, the same policy could be split into, say, 5 policies of Rs 20 lakhs each with terms like 5,10,15,20,25.  This way, there will be two advantages.

First, after completion of the period, the premium for that policy stops, boosting cash flows. In this example, after 5 years, the first policy would stop and consequently, that premium need not be paid. Secondly, since these polices are of shorter tenure, the policy holder will be paying lower premiums as well.  This is a double benefit that can make a huge difference in the premium, without compromising on the protection requirement.

Let us take the case of Manish, who is 33 years old. Suppose, he takes a Rs 1 crore policy for 25 years, the premium for ICICI Pru Lifeguard (WROP) comes to Rs 35,991 a year. However, if he splits the policy into five of 5/10/15/20/25 year terms, he will pay a total premium of Rs 33,812 a year (see table ) which is a difference of Rs 2,179 per year.

Now after 5 years, one policy would have ended and a premium of Rs 6,313 would not have to be paid. Over time, one policy after another will keep on closing and premiums to be paid becomes less and less. If we were to calculate the premiums in the first scenario where he takes one policy of Rs 1 crore for 25 years, he would pay a premium of Rs 8,99,775 (Rs 9 lakh) over that time period.

In the other scenario, where he takes five different policies, he will be paying in all, Rs 5,27,335 (Rs 5.27 lakh). That is a staggering difference of Rs 3,72,440 (Rs 3.72 lakh). This is without compromising on the life cover requirements.  It does make sense to have a clutch of policies with different terms, doesn’t it?