Ladder7 Financial Advisories

Financial Planning for NRIs

2012-01-30T06:07:00.000-08:00

NRIs are a very big community of Global Indians ( about 20million at last count ) who have an umbilical connection with their motherlandand have been regularly investing inIndia. While the emotional tugs arethere, there are also real reasons why NRIs want to invest in India.

The returns on investment abroad are low, which makessending money to India even more attractive, what with India having attained adegree of popularity as one of the engines of growth for the world andconsequently the attractive returns that it is able to offer.

From the NRI perspective, the returns from virtually everyinvestment done in India, would be significantly better as compared to thereturns possible in jurisdictions like US, UK or other developed economies.

That being the case, NRIs are predictably excited to invest here.

Planning for them

Broadly speaking, there is not too much difference between afinancial plan for NRIs and resident indians. Both have goals which need to beachieved from the cashflows that they have. So, a financial plan would broadly be the same. However, there would bedifferences which are worth noting.

Currency Fluctuation: Since, they would be earning inone currency and investing in Indian Rupees, the currency fluctuation can playa major role in determining whether an investment would turn out to be good for them or not. For instance, if theinvestments are made in India and they do not want to repatriate the proceeds,the currency fluctuation risk is not there. However, if they are investing hereand may want to repatriate at some point, a weakening rupee would eat intotheir returns. Hence, though an investment may offer attractive returns inrupee terms, it may not remain attractive when it is repatriated. This is areal and present danger. Hedging for this could be an option. But, this is hasnot been easy even for corporates, who were caught on the wrong foot recently,when Rupee weakened to below fifty two against the dollar. Corporates hadhedged, assuming the rupee will at best weaken to Rs.48-49 to a dollar.

Estimation of income/expenses : Many NRIs haveintentions of coming back to India at some point. Many in my association, haveexpressed intentions of coming back to India after their working lives. This would mean that all Income, expenses& inflation for those expenses, till their stay abroad, will conform withthe prevalent norms in the host country. Also, the benefits which they will get in the host country will alsohave to be taken into account. The benefits after retirement, which includesmedical benefits could be a lure for many to stay back. Also, though they haveevery intention to come back, they develop cold feet, nearer the event andsimply stay put. So, while planning, one has to make a provision to take careof this situation - if at all they do not come back to India and continue toreside there, they should still have theresources to live in comfort, in thehost country.

Travel : NRIs do visit India from time to time, with their families. This is aunique expense that has to be provided for in their case, based on theirfrequency of travel. This can be a big expense, considering that the entirefamily will be flying down to India and will travel within India. Also, it isalmost an accepted custom that NRIswould book and send tickets for their parents and other close relatives, whenthey have to visit them in the host country. These expenses would need to befactored in, in a plan for NRIs.

Nuances : There are local customs, expectations which need to be complied with. Anexample of this would be that, in some communities, charity is an article offaith and hence a client living abroad may have to contribute according to expectationsthere. These can be estimated only with the help of the client, as a plannerwould never come to know of such expenses.

Investment aspects tobe considered for NRIs

Taxation is an aspect to be considered in case of NRIs,before deciding whether the investment option is a good one or not. For instance, the taxation for Equity Mutualfund investment for NRI is nil, just like in the case of resident Indians, ifthe investment is kept for more than 12 months. Even Dividend Distribution Taxis nil. This makes this investment class, quite worthwhile from their point ofview, if invested for over a year.

Short-term capital gains are at 15.45% for both NRIs andResident Indians. However, in case ofNRIs, there is a TDS deduction of 15.45%, in this situation.

However, in case of debt mutual funds, in case of short-termcapital gains, the taxation applicable is at one’s income tax slab. However,TDS will be deducted at 30.9%, which can be claimed back by a person who isfiling tax returns in India. This is along and tortuous process of waiting out for the refunds.

Long-term capital gains ( LTCG ) tax for debt mutual fundschemes for both resident and non-resident Indians, is the lower of 10% withoutindexation and 20% with indexation. However, in case of NRIs, there is a TDS of20.6% ( the rate after indexation ). Since it is after indexation, the actualincidence of tax will be lower than 10%. However, claiming back this amount isan issue for those who file returns and is completely lost to those who do notfile returns.

A better option for NRIs investing in debt funds for 12months or less, would be to invest in the dividend option and in the growthoption, if it is for over 12 months.

FMPs have been giving good returns, in the recent past. Onecan approximately expect to receive about 8.5% returns after tax, based on theinstruments in which FMPs of just over a year invest. This would be after theTDS, which would be deducted. DebtMutual Funds of medium to long maturities also are attractive for NRIs,especially at this point, when interest rate cycle is poised for a directionchange. Over the next one to two years, double digit returns can be expected.The same beneficial tax treatment would work here, making these fundsattractive bets for NRIs.

The other investment option of choice for NRIs is property. NRI / PIO may acquire immovable property in India other than agricultural land/plantation property or a farm house out of repatriable and / or non-repatriablefunds. On sale, repatriation of the sale proceeds is possible, either from NREor FCNR account. This would be possible only if the property was acquired outof foreign exchange sources in the first place.

It is apparent that planning for NRIs is not very different,as compared to resident Indians. There are a few differences, which a plannerneeds to be aware of while planning for an NRI. A knowledge of the financial,tax and legal landscape of the host country would be helpful in drawing up ameaningful plan for NRIs.

Article by Suresh Sadagopan published in Jan 2012 issue of Financial Planning Journal

Is it better to pay tax than save tax?

2012-01-30T06:05:00.000-08:00

Saving tax is a religion policy in India, so much so thatpeople do the equivalent of walking barefoot in the desert, tocollect a few dates. People want to ensure that they pay as less taxes aspossible.

While saving taxes is a legitimate aspiration, overdoing itactually does more damage than help. This is something that eludes theunderstanding of most people.

There are several instances where meaningless investmentsfor the sake of saving taxes, takes place. Take the case of medical insurance…there are many who are covered adequately with a group medical insurance, bytheir company itself. But they still want to invest in another policy, just tosave taxes under Sec 80D, where the eligible amount for self and family isRs.15,000/-pa and that for their parents are another Rs.15,000/-pa (Rs.20,000/-pa, if the parents are senior citizens ). Some of them are so bent upon taking these,even though they clearly don’t require it. They offer all manner of justificationsas to why an additional medical cover would actually be good for them. They gointo aspects like soaring medical costs and chances of all falling ill andfinding the cover inadequate in a family floater. They also very helpfully paintthe scary picture of what happened to their neighbour/ friend / colleague, whenthey were caught short in a medical emergency.

Having more medical cover than necessary is a waste ofmoney. It is a sheer waste to invest Rs.15,000/- pa to save taxes of Rs.4,635/-( even at the highest tax slab). Does not look that intelligent to do this,does it?

Then there are those who would invest in insurance policiesto save taxes. Now, insurance is for security. But, from time immemorial,insurance has been sold on the plank of tax savings and investments, so much sothat people now look at insurance policies only for these. The security that aninsurance policy affords, is simply a forgotten footnote. When the tax seasonlooms and the employer has delivered an ultimatum to show proof of tax savinginvestments, the scramble begins. It is then they come across helpful insuranceagents who would invest their money and give proof of investment, the same dayor the next. That ofcourse, is the magic word.

They invest in an insurance policy,get the proof, submit it to their office – and life is bliss!

The main thing here is that most don’t know what policy theyhave invested in, whether that policy is suitable to them, whether the tenureinvested is appropriate, what returns it could offer and whether it is atraditional or an unit linked product etc. In a nutshell, they have notevaluated the product for it’s merits and have just invested to save tax. Thiskind of investment is very common in our country and is doubly harmful. Firstly,they invest a big sum of money in a product that they may not need. Second,they would be bogged down with it for a longtime. Else, if they want to get ridof it, they would suffer a gut-wrenching loss. It would have been far betterpaying the taxes themselves, instead of shooting oneself in the foot.

Another favourite among people is to buy a home to save tax.If it is the first home, the deduction available is just Rs.1.5 Lakhs pa andtax savings would amount toRs.46,350/-, in a year. For this reason, if one wereto buy a home, it can put enormous pressure on one’s finances. Due to this,one’s lifestyle becomes crimped and it stays that way, for extended periods,just to save some tax and own an asset over time. It might have been much better just to havepaid the taxes, invested the money after that, live life decently due to bettercashflows ( in the absence of constricting loans ) and end up buying a propertylater, when it is actually required.

Now, comes the most interesting part. Borrowing to save tax!Come December and the scramble to submit proof sets in. Those short of cash,resort to borrowings to save tax. Peopleare known to take personal loans or credit card loans to invest in tax savinginstruments. If one were to calculate the costs and efforts vis-à-vis how muchmoney is being saved, it may not make much sense to do it in the first place.

Obsession to save tax at all costs is toxic. Any investmentmade, even if it made for tax savings, should make sense in the overall schemeof things. It needs to be a good investment. Tax savings should be anincidental benefit. We need to realize that if we actually calculate the totalcosts, it may be much costlier saving taxes than paying taxes, in many cases.Save taxes, where you can. Simply pay it, if it does not make sense to savethose taxes. You would be better-off that way.

Article by Suresh Sadagopan published in Business Standard on 29/01/2012

Wrong choices for tax savings

2012-01-30T06:02:00.000-08:00

Our investors keep tax saving investments for the lastminute – this is the rule rather than the exception. When one does this, thereis not much time to evaluate the options and take an informed decision. Also,most have an aversion to finance. Hence, they just rely on whoever isapproaching them and just get information from them, before taking thedecision. Needless to say, such decision making can go wrong. Hence, they tendto make wrong choices.

1. 1. Investing in Life Insurance for savings tax isvery common. As common is investing inpolicies about which they just don’t know anything about – what kind of policy,what are the features and benefits, whether it is suitable to them etc. Suchinvestments are money down the tube.

2. 2. Putting money into medical insurance policies sothat it may save tax, when one is adequately covered by a policy from theemployer. The compulsive tax saving instinct which is fairly common makes oneto put money in medical policies, which is in effect throwing good money.

3. 3. Investing in low-yielding instruments like NSCsto save tax is hardly a good idea as the inherent post-tax returns are verylow. Even though one saves tax, it still does mot make sense.

4. 4. Investing in a home primarily to save tax is abad option too. Lots of people go in for a home only to save tax. Tax savingfor the first residential home is limited to a deduction of Rs.1.5 Lakhs, whichtranslates into a saving of Rs.46,350/- ( for a person in the highest tax slab). The pressure it puts due to the liability and the EMI for extended periodsis phenomenal. It also puts pressure on one’s normal lifestyle itself, if thisinvestment has been stretched.

5. 5. PPF is a good investment in itself. But, forthose who just look at the returns and put in money without looking at upcominggoals, it becomes a bad choice. PPF is a longterm investment instrument and hasto be used only when the tenure matches one’s needs. Else, one will be caughtwith money in the account, but nothing to meet upcoming needs.

Pulling money away from Equities now is a bad idea

2012-01-30T05:15:00.000-08:00

The ruling sentiment now in the environment is of gloom. Thestock markets have been on skids for over a year and people are wondering, ifit will ever go back to the levels seenin 2007 end. The negative returns are hurting and hurting bigtime. Sensex hasgiven a negative 24% last year. So, lots of people are wondering why theyinvested in Equities and why they should care to keep the investments in equities,if even the capital is eroding.

Investors reckon that it makes better sense to invest insimple bank FDs itself, which atleast gives a positive return. There are flawsin this argument, though not apparent at first.

Firstly, volatility does not mean poor returns. As long asthe amount stays invested, the profit or loss is virtual. It is when we cashout that the profit/loss becomes real. So when the markets are in a tail-spin and subject to the fact that theinvestments are in the right places, it makes sense to stay put. There is nogain carping about the poor returns. It is well known that the stock marketsgoes through these whip-saw movements and deliver returns, over time. Thisvolatility at this time is not new. Volatility is in the very nature of equitymarkets. When an investor has invested in equity markets, it is with thatknowledge that they have invested. Onething that should be a source of comfortfor investors is the fact that equity markets have given the best returns ofany asset class, long-term. Since 1980,Sensex has given a return of about 17% CAGR, to date. That is not too bad, isit?

The current favourite gold has given single digit returns inthis period. Gold reached an all-timehigh of about USD850 an ounce in 1980and had been sliding for most of the period after that, reaching about aboutUSD271 in 2001. After that, it has been on a steady rise, till a few monthsback. There was a fall of over 20%, in dollar terms in the recent months,though the fall in rupee terms has been less drastic, thanks to a depreciatingrupee. Lots of people are betting ongold just looking at the past 10 years performance alone. Property too has it’s own cycles. The bustwhich started in 1995 was in place till 2003. After that there had been a meteoricrise. But, so had the equity markets. But, equity markets rise and fallrapidly. And that, to come back to the point, unnerves people. Sensex has risen from 100 to about 16,000+now, which is not bad at all.

Investors should understand that equity will work in thelongterm. You don’t have to keep seeing stock quotes everyday, just because itis published. Seeing the poor returns now and moving to debt would be shootingoneself in the leg, which unfortunately lots of people do. But, that smacks oflack of basic understanding of the equity markets. One would book losses, ifone were to exit now and invest in another instrument, which could barely beatinflation. Poor choice. If one has patience, the same investment wouldeventually come up. Now, people wonder if it will ever come up. That’slaughable again. Equities are business ownership units. Businesses will bethere and will make money – their revenues are always inflation adjusted ( theycan increase prices ). So if you are participating in food businesses, you willmake money. It is only the utter pessimist who would say everything will shutdown and hence stock markets can’t go up at all. If that is the case what onearth can one do with gold and property?

Now, will the markets go down this year? Good question. Butthere is no conclusive answer. It can ofcourse, if the global situationworsens. It can fall by 20%, even a third perhaps. But that is in the realm ofconjecture. The right question to ask is, will the markets come up and givegood returns in future? The answer is a resounding yes. Hence, it makes senseto just stay put. If the markets go down further, you will not suffer losses aslong as you stay invested. There will bethose who will exit at the bottom. Let it not be you. And those same peoplewill buy back when a bull rally reaches it’s peak – losing both ways. We have a hard time telling investors to juststay put. Some of them want to rejig the portfolios all the time – in the hopethat it will miraculously recover. It just worsens the situation, as we haveseen.

Just stay invested. Better still buy at all dips. You wouldhave done yourself a big favour, doing that. You will realize that years fromnow!

Article by Suresh Sadagopan ; Published in Business Standard on 22/01/2012

Planning for the year ahead

2011-12-29T06:31:00.000-08:00

It was dark. Bala gotout of bed to go to the bathroom. On his way, he saw light streaming out of the hall. How manytimes I have asked Pranay to switch off the TV before going to bed - he was cursing under his breath. When hereached the hall, he was able to see that the TV was off and a blinding lightwas coming from the far-end, near the sofa.

Bala was thoroughly perplexed. For a moment he thoughtsomething was afire. The light was however a powerful white light and therewere no flames or smoke.

He was confused. He heard a voice call him. For a moment,fear paralysed him. The light was now subsiding and he was able to make out thesilhouette of someone seated on the sofa. He panicked, thinking that it mightbe a burglar.

Sensing his panic, the figure addressed in a soothing voice,”Don’t worry Bala. Don’t you recognize me? ”. Bala’s panic subsided; but he wasquestioning his sanity now. He slowly moved forward and found a saintly figure seated on the sofa, with aflowing beard – much like Bhisma pithamaha.

Somehow the benign countenance comforted Bala. He felt a surge of reverence well within him.“No Sir, I’m not able to recognize…”, he trailed. Then it dawned on him thatthis could be the Lord himself. He immediately fell to his feet and when helooked up, he saw the Lord, as he imagined him. Then he was back to being the Bishma pithamaha.

Words failed Bala. The great one gave tongue. “We are almostupon the new year. You people make resolutionsand then promptly break them. Why don’t you keep them for a change?”.

Bala’s tongue still was in knots. The Grand Sire intoned–“Let’s see what you can do in the next year – Finances is an area which youhave mismanaged, all along. Why not take a few resolutions in that area andkeep them?”

Bala’s heart was in his mouth. Finances were his nemesis. Hecould hardly manage two plus two – forget about managing finances. For a momenthe was angry. Then he realized that he was dealing with The Almighty. Bala feltprivileged, for God had chosen to talk to him, though it was on finances.

Invest before spending, said the Sire. Now this was a newparadigm for Bala. He normally spent almost everything and invested if he hadanything left behind. The Lord knew what was going on in his mind. “You alwayshave to think about the future. Future is not always as rosy as we think &hence the need to save”, cautioned the Lord. This got Bala a bit worried… wasGod hinting at an upcoming problem… a job loss perhaps?

“No, that is not what I’m getting at”, said the Sage,reading Bala’s mind. “I was just being cautionary and meant that one should putaside money to meet future goals. But many of you cash out your future incomeitself, by taking loans and buying what you cannot afford. So, that’s the next one you should not do”,the Lord said.

Was he talking about him, wondered Bala again. Bala had been in the habit of taking loans atthe drop of the hat. He has a home loan, car loan, personal loan & a smallloan for the washing machine. Yes, hecould have postponed some of it – like the washing machine. He had replaced aperfectly working washing machine with a new one, since he liked the technicalwizardry,the bells and whistles the new machine had.

The-cashing-in-your-future-bit now hit him. He realized atonce that he was recklessly spending his future earnings and is alsojeopardizing achievement of major future goals, like retirement and educationfor his children, by throwing money on unnecessary thingies.

Bala resolved then and there that he will put a stop to suchimpulsive purchases and giving wing to flights of fancy.

The Sage was smiling. “That’s good”, he said. That will ensure that you don’t have to keeplooking for a new job, every couple of years. Bala was speechless. He had just thatidea the previous evening, but he had dismissed it. He was doing well in hisposition. The thought had come in the first place, as he was struggling to makeends meet, inspite of his good income.

“Be realistic in your expectations. Be willing to take somerisk. Give your investments time. Don’t worry too much after investing. Youshould have done that before”, the Lord said.

Sage counsel – Bala thought. We all invest in something and start worrying.We pick up the paper and check the quotes and get palpitation. We don’t givethe investments time. And in those cases where we cannot check, like property,we don’t worry, we retain it for long and tend to make money. Bala instantlyunderstood that risk reduces with time – risk is inversely proportional.

“And finally, don’t chase fads. Don’t invest becauseeveryone else is investing. Invest only if it makes sense in your portfolio.Invest as per the asset allocation required in your case for meeting the goals.What is good for one, need not be good for another”, held forth the Lord.

Bala was deep in thought. Yes. All these are good advice,which I should incorporate, he thought. There was a blinding light and the Lordwas gone. Bala was in an uplifted mood now. He cannot go back to sleep now. Hesaw that the clock and it said it was five in the morning. He resolved to gofor an early walk. The weather was great. When he hit the road, there was acycle passing by with a man gaily pedaling and waving to him. “All will bewell”, he said while he passed and then pedaled away in a jiffy. Bala saw thebeard and he thought he caught a glimpse of the Bhisma pithamaha!

Article by Suresh Sadagopan ; Published in Moneycontrol.com on 29/12/2011

Planning Holidays – How viable are club memberships?

2011-12-07T23:01:00.001-08:00

Holidays for most people used to be a trip to hometown andback, twenty years back. But, that was then. These days, trips to hometown, donot count as holidays. Holidays are separately planned, often to far-off andexotic locations. That can cost quite a packet, as we can attest as FinancialPlanners, being privy to what our clients spend on their vacations.

The spends can range from Rs.25,000 to several lakhs ofrupees. This means that, for some of them, this is a major expenditure item ina year and careful planning needs to be done.

This is where time share resorts come in. RCI, MahindraHolidays, Country Club, Sterling Holidays are some of the popular ones. The concept in a timeshare is that one canavail of a holiday, for seven days in a year ( normal scenario ), in one of themany locations of the service provider, for a specified period, like, say, 25years. For that, one needs to pay a certain sum of money in advance, say Rs.3.5Lakhs. This money is either paid in a lump-sum or as part lump-sums & partEMIs. Apart from this, one also needs to pay an annual maintenance fee, whichmay be Rs.7,000 – Rs.20,000 pa.

So, is that cost effective? The answer is not straightforward. These club memberships are not cheap, for sure. The main reason why many want to go for suchmemberships is 1. Hassle free holidays – the rooms and the resort are good 2. Once there is a club membership, one maytake a good holiday every year, instead of skipping it 3. Peer pressure &keeping up with the Sharmas.

Now, everything depends on the kind of resort, facilitiesand services available. Some of theresorts do have excellent facilities and the experience is entirelypositive. In some other cases, theexperience is not so good and one feels cheated. Many of the resorts claim tooffer five star quality rooms. My personal experience is that the rooms arepretty good, but the claim that they are five star quality, is a stretch. But,over all it had been good. Again my personal experience with another serviceprovider was substandard. The room was OK; but the resort was like a housingcolony in Mumbai. I definitely felt cheated.

So, that’s the problem. The quality of the resorts & therooms may not be uniform, especially for a provider like RCI, who depends onvarious resorts coming under it’s banner. Ofcourse, one can pick and choose andgo to specific resorts, based on the feedback one has received from others whohave used & hope for the best. But, that beats the purpose of choosing aclub membership, which was for hassle-free holidays.

From a purely financial standpoint too, it is not a easydecision to make. Again, the cost is high or low depending on various factors –what kind of accommodation would you normally stay in and what you would pay,your willingness to evaluate various potential resort options each time youwant to go for a holiday and other factors. If you want a uniformly goodexperience, you are better off with a good club / resorts chain, where you areconfident of the resort and room quality and you would want a hassle freeholiday. In this case, one would pay about Rs.44,000/- (Rs.35,000/- interest onthe amount paid + about Rs.9,000/- as Annual maintenance charges , based on theexample ), which works out to Rs.6,285per day for the people covered. That is not exactly cheap. Also, the amountpaid does not come back to you, which adds to the cost too.

There are alternatives available from various other travelagencies these days, which could give very competitive options. For those whodo not commit for the very longterm, one can take advantage of the offersavailable. This ofcourse means more homework before zeroing on the holiday, butthere is the benefit of not paying a huge sum upfront and the choice of goingto any destination of one’s choice, over the years, instead of restricting towhat the club/ resort chain has on offer. It could also be cheaper.

On the whole, Club/ resort chain option would be a greatidea for those who want to go on a holiday year-on-year, want hassle freeholidays in quality resorts. Thedownside is that the price can be high, theyget stuck to that chain, the holidays can be accumulated only till a point,after which it will lapse. Also, this is a very long term commitment that theyare making and there is an inherent risk in it. In the other option, theadvantage is that you don’t have to commit for the longterm, you are notchained to the resorts available with the club and your holidays may be of muchlower cost. The downside here is that you may have to spend time & effort evaluatingoptions for holidays each time, the experience will be good sometimes and notso at others.

Choose the one that suits you best, based on what you areactually looking for.

Article by Suresh Sadagopan ; Published in Financial Chronicle on 17/11/2011

Small Saving schemes – Are they attractive in the new Avatar?

2011-12-07T22:55:00.001-08:00

Small savings schemes used to be a major attraction, with investors. But, small savings schemes returns used to be static. With rising interest rates, other assets had adjusted their payouts – but that did not happen in the case of small savings. Due to this, small savings schemes lost out to Bank FDs, NCDs, Company FDs, FMPs and the like.

Now, that has been corrected to some extent. Is this going to excite people and make them go for these?

Unlikely, in most cases. The changes are there, but small. Time deposit in post office have gone up from the 6.25 – 7.5% range to 7.7 – 8.3% range. NSC has gone from 8% - 8.4%, but the 5% bonus at maturity has been discontinued. Hence, there is not much change in the returns. Now, NSC has a tenure of five years, down from six years. There is also a 10 year NSC which has been introduced now, offering a 8.7% return. All these instruments are currently offering returns lower than what a bank FD offers and may not sit well with most people. Those not in the tax bracket or in the 10% tax bracket and want government guarantees, may find these useful. An NSC offering 8.4% translates to a measly 5.8% post tax, for someone in the highest tax slab. That’s not much, isn’t it? Especially, when inflation is hovering between 9-10%.

The other change now is that, the rates have been linked to the government securities of similar maturities, with a 25 basis point spread ( 50 basis point spread in case of the 10 year NSC ). So, expect these rates to go up and down every year in line with the prevailing rates then.The rate for Senior Citizen Savings Scheme ( SCSS ), has been kept at the same level of 9%. The spread has been kept at 1% compared to the prevailing government security rates, keeping in mind the fact that Senior Citizens may depend on this income, for their sustenance.

However, the interest rate for PPF has gone up to 8.6%. This makes it attractive as this is a post-tax return. The post -tax return comes to 11.3% ( assuming Sec 80C benefit is being availed ), which is fantastic. An instrument yielding north of 16% pre-tax returns only, can give you such returns. Hence, this becomes a very good longterm wealth creation tool, in your hand. Also, the investment limit per year has been enhanced to Rs.1 Lakh. PPF comes under Sec 80C and helps you to save tax, in the year of investment where you can take advantage of the enhanced limits. All in all, PPF has become a very attractive long-term savings instrument. It always was a weapon of choice for meeting longterm goals, especially Retirement and Child Education. Now, that weapon has become far more potent!

Make the most of this new opportunity in PPF, that has come up. Otherwise, the other optione mentioned earlier – Bank & Company FDs, NCDs, Bonds, FMPs – score over other small savings instruments. Another one that could offer excellent return possibilities over the next 2 – 3 year period could be a debt MF scheme, especially with medium and long maturities.

Choose wisely, depending on your horizon and risk return expectations.

Article authored by Suresh Sadagopan; Published in Moneycontrol on 16/11/2011

Financial Planning is not Investment Advisory

2011-12-01T00:53:00.001-08:00

These are terms which are used synonymously – but they actually mean two different things. You might have heard of many. Sales & Marketing is one such pair. They are often used interchangeably. Sales is the art of persuading a client to buy a product or service. Whereas, Marketing is the sum-total of all activities from product conception, branding, retailing, communications and beyond, whose overall purpose is to ensure product sales. But these two areas are entirely different. There is another funny indian-ism which I have heard – I’m going to the bazaar for marketing ( which is their way of saying that they are going to the market to buy stuff !).A similar confusion surrounds Financial Planning & Investment Advisory. Financial Planning refers to drawing up a blueprint to achieve the goals one may have, through appropriate use of the finances at one’s disposal. Investment advisory however generally refers to understanding client requirements and advising appropriate products to invest in.An Investment Advisor ( as per Investment Advisors Act 1940 of US SEC ) is a person or a group that makes investment recommendations or conducts securities analysis for a fee. This clearly establishes the limited nature of engagement in case of an investment advisor as compared to a Financial Planner.A Financial Planner is like an Architect, in the sense that an FP draws up a blueprint of what needs to be done on various fronts like liquidity & cash management, goals feasibility & planning, Risk management, Long-term cashflow planning, estate planning… Investment advice comes at the end in a financial plan, after all aspects have been analysed. It is a by-product of comprehensive analysis of one’s situation. In that sense, the investment advice will simply flow out of the analysis done. For instance, if the risk assessment shows that Rs.1 Crore of insurance is required, then that will automatically come in the recommendation. Also, unlike in the case of an investment advisor, a financial planner will also look at past investments and offer advice on these, to dovetail with their overall plan. In a nutshell, a Financial Planner looks at one’s finances holistically, in the light of all the goals/ finances overtime.However, since almost everyone in the Financial Services space – from an insurance agent to a MF distributor to a stock broker – all use the term Financial Planning in a way that is convenient to them, there is lot of confusion in the minds of the public, at large. A chemist cannot call himself a Doctor. Similarly, agents/ distributors should not be allowed to call themselves Financial Planners. Such legislation is the need of the hour. However, SEBI through it’s Concept Paper on regulation of Investment Advisors is proposing to call an Investment Advisor, anyone who is offering Financial Advice, Financial Planning Services or any action that would influence an investment decision. This is extremely curious, as, financial advice, financial planning & something that influences an investment decision are three different things and cannot be clubbed under the single head of Investment Advice. Financial Planning is not Investment Advisory, though it is a small part of the overall plan. An Investment Advisor indicates a far more limited role than what a Financial Planner performs. More confusion will result if this concept paper sees the light of the day.Again, many use the appellation “Financial Planner” just because they have completed a Financial Planning course, but continue to be an insurance agent. This again confuses the normal investor as they see a person who is an agent, use the tag - Financial Planner. The need of the hour is for the investing public to know, who is a Financial Planner, who is an agent and who is an Investment Advisor. Only then they would know as to whom to contact for what. Simply calling a whole lot of people investment advisors would only confuse issues for the public and result in them approaching the wrong kind of advisors, which is precisely what SEBI may want to prevent. A simple rule applies as always for you – Keep your eyes and ears open. Understand what a particular person can do for you irrespective of what they call themselves. Check out past work they have done; talk to a few references; check whether they have appropriate qualifications, standing & experience in the field. Finally find out what they are charging and evaluate for yourself, if that offers a good value proposition or not.There is just no alternative for keeping one’s eyes open and ears to the ground. A healthy dose of common sense additionally helps!Authored by Suresh Sadagopan ; Published in The Economic Times on 17/11/2011

Understand the taxation on various products and benefit from them

2011-12-01T00:37:00.001-08:00

There are advertisements these days for FDs, advertising 12-13% returns. But these are misleading as they just calculate the yield for the tenure of the investment and divide it by the tenure. For instance, if the yield is 10.75%pa for a five year deposit, the cumulative yield for the 5 year period is 66.62%. Dividing this by the tenure ( 5 years ) , one gets 13.32% as the annual return. But this is not correct and the annual return as we have seen in the beginning, is only 10.75%pa. But, people get misled by these numbers all the time. Also, these yields are just pre-tax returns. Now, if one calculates post tax returns, it will be even less impressive. For a person in the highest tax bracket ( 30.9% ), a 10.75% annual return turns out to be just 7.43%. That is not very impressive, is it?It obviously isn’t, with inflation itself hovering between 9-10%. One is actually getting a negative real return, this way. It would be better if this haircut called tax is not there, would’nt it? Unfortunately, it is going to be there. Is there a way out? There is, but not in FDs. In case of investments in Mutual Funds, the gains from the investment are taxed in a different manner. For investments upto 12 months, gains from them are treated Short-term and beyond that, gains made are treated as Long-term gains. In case of Equity oriented funds ( funds investing atleast 65% of the assets in indian equity ), the tax on short-term capital gains are at 15%. This is irrespective of one’s tax slab. Tax on long-term capital gains for Equity-oriented funds is nil, currently. For debt funds, the Short-term capital gains is taxed at one’s income tax slab and long-term capital gains are taxed at 10% without indexation and 20% with indexation. In case of dividends that are paid out, there is a dividend distribution tax, which is applicable. It is 13.51% for individuals, for most debt funds. This is paid by the fund house, but the investor is indirectly bearing the same. The amount coming into the hands of the investor is hence tax-free. This would be useful in cases where the investment is for less than 12 months and the investor is in the 20-30% tax slabs.The Long-term capital gains tax of 10% without indexation or 20% with indexation is applicable only for financial assets. For other assets, the gains are treated as long-term only after a period of 36 months. In case of property, gold or other assets, the tax on long-term gains are 20% with indexation.For this reason, Gold ETF would be a good bet ( instead of Gold ), as the capital gains are treated as long-term after 12 months. The tax treatment for long-term capital gains are like debt mutual funds. There are several other advantages of investing through ETFs like low transaction charges, no storage, no worry about purity etc. This has hence become very popular and Gold ETFs have been mopping very good sums in the recent months.It is important for an investor to hence understand where they are investing and the tax treatment for that instrument. This simple knowledge will assist them to maximize their post-tax returns and enable them not to fall for any advertising gimmicks offering 12 & 13% returns. Article by Suresh Sadagopan ; Published in moneycontrol.com on 30/11/2011

Advantage Customer!

2011-11-03T05:41:00.001-07:00

RBI has done it at last… freeing up the interest rates on Savings accounts and allowing the market to determine the rates. This is a very welcome move. Also, this corrects a historical wrong.If RBI ( which is an entity with zero risk ) borrows at 7.5% currently, it stands to reason that other banks ( which carry more risk than investing with RBI ) should pay a premium to that, while borrowing from customers. Hence, Savings bank rate should actually be higher than the reverse repo rates. But bank SB customers were getting 3.5%pa as interest all these years and it became 4% pa very recently. Current account holders were and are still getting nil returns, which again is unfair as the banks get to use the money and it is essentially free money for them. They are firing from someone else’s shoulder!Now RBI has corrected the anomaly, at least regarding savings account interest rates. It has allowed the banks to offer a standard interest rate till Rs.1 Lakh in the Savings account and a differential rates above Rs.1 Lakh, for various slabs, as determined by the bank. Some banks, who have huge amount of CASA ( Current account Savings Accounts ) deposits are crying hoarse that this will impact their profitability and hence they may have to charge higher rates for loans. What they are crying about actually is about loss of easy money, which was a low hanging fruit for them. They justify the low rates saying that they give various services. These days every service is charged – be it a cheque book, a signature verification etc. So, that rings hollow.Now, competitive pressures will ensure that the interest rates for Savings accounts will go up. Yes Bank has already announced 6% interest in their SB account. This is probably the shape of things to come. Some of the banks may not increase it to that level, but will still have to take it up, if they want to ensure that money stays in Savings Bank accounts. Even 6% they are paying is very low. As seen earlier, it is much lower than the interest RBI pays banks! So, banks have no reason to complain.A specious logic I have seen in the paper says that the higher interest rate in savings account will result in a small increase in the interest rate, amounting to just hundreds of rupees. But that is the money which belongs to the customers – so it does not matter if it is hundreds of rupees or it is less than Rs.10. My experience with my clients shows that people do have substantial sums of money in their savings accounts. For them, the difference will be in thousands of rupees, not just loose change.Now the moot point – do you need to change your bank, if your bank is unwilling to hike the interest rates. It appears that banks will not have too many options in a competitive landscape. It is debatable whether they will go all the way to 6%. But 5% seems very much possible. Once many banks first come to this level, the ones who are sitting on the fence will have no other option but to follow suit. So, you are bound to benefit in any case and there is no need to change banks for now. But if your banks is playing truant, you could always close the account itself, if it suits you and open with a more customer friendly bank… or you could simply open a new account in the customer friendly bank and keep most of the deposits in it. The main point is that banks can no longer take you, their customer, for a ride.Authored by Suresh Sadagopan ; Published in Moneycontrol.com on 2/11/2011

Legislation is no replacement for Financial Literacy

2011-11-03T05:06:00.000-07:00

Visiting parks and gardens has always been a pleasurable & soothing experience – not to relieve my straining bladder as my initial description might have indicated. It gives immense happiness just to be amidst the greenery and the sublime serenity that these havens seem to exude. So, I suppose it’s settled why I visit parks…While we take the whole thing for granted, it takes enormous effort to create one. There are all kinds of plants – some that grow without any support and others like vines, which require support. All these plants would ofcourse require optimal dose of nutrients, water, sunshine and tending so that they grow & flourish. Also, there are pests and animals to take care of. In effect, quite a handful needs to be done to ensure that what is planted, grows. Our government has given the framework in the Financial Sector by way of legislations – for Equity/ MFs, Insurance, Micro finance, Banks etc. There has been quite a burst of activism among the various regulators, in the recent years. They are striving to create an environment where the investor will not get misled and get a good deal. This is a laudable objective. In some senses, it is working too. But, legislation alone is not a panacea that will cure all ills that the common investor is afflicted with. The missing links today are that the investor is not fully aware of the financial landscape, the products & services, does not have the knowledge to interpret the information that is presented to him and is unwilling to allocate enough time to study the offerings and make informed choices. That ofcourse opens out the field for manipulation from unscrupulous elements, who will lead them up the garden path and sell them some apple-sauce, which is entirely unsuited to them.Result – an aggrieved customer, who thinks that the financial landscape is crawling with crooks. Turncoats there are, like in any profession. And like everywhere, the good ones far outnumber the black sheep. The problem in this case was both knowledge and willingness to spend time, understand the offering and take an informed decision, instead of blindly signing at every cross-mark that have been so thoughtfully pre-printed!This is an aspect that seems to have eluded the regulators. An informed and engaged customer is far more likely to take correct decisions; time and effort needs to be put in that direction too. Legislation is not a silver bullet that will cure the system of all it’s ills. Legislation is rather just one of the important components, not the only one. The regulators have been neglecting this aspect and it is showing up… instead they tend to bring in more regulation and end up over-regulating the industry under their charge, wringing out the life-force from them in the process.People are getting fooled by pyramid schemes, they get sold wrong insurance products, are holding unsuitable MF schemes, get into risky financial products, have wrong asset allocation… many investors just go by what their friend or colleague has done or recommends, without understanding the suitability. Lots of them chase fads – currently it is gold, silver & property investments. Some of these can be attributed to greed. But the significant other problem is the lack of financial literacy. Legislation cannot solve this. Concerted effort is required to address this. It is easy to bring a law – just a committee of a few people can bring in a well-meaning piece of legislation. But, education/literacy takes time to percolate. Putting up a few pages is not tantamount to educating people, as some regulators tend to believe. Ofcourse, that part is easy and that’s why they do it.Financial illiteracy costs everyone a lot. It hurts the investor, the distributors, the financial service companies & the economy at large, as an investor who has a bad experience does not go back to that asset class. For instance, many who had invested in company FDs in the past and lost money, are still wary even though the landscape has undergone a seachange now. It hurts the investors as they are not participating in good products available today and the companies who are unable to get much money from this route, due to investor indifference. Finally, investors themselves need to take up the onus of educating themselves, as that is in their best interest. If they are spending their whole lives to financially secure their family, why not spend some time to educate themselves on finances, so that they may secure their bases. Makes sense, doesn’t it? That willingness will mean all the difference between a financially secure future and another filled with worries. Just like the park that needs a fence to secure it from animals & pesticides to keep the worms at bay, ensuring adequate water & manure is the role of a regulator. Using the ambience provided and growing up in glorious profusion is what the plant will have to do – that’s the investor’s job too. Like they say, the horse has to still drink, even if it is taken to the water. That applies to investors too.Authored by Suresh Sadagopan ; Published in The Economic Times on 3/11/2011

Do you need to change Asset Allocation based on Market movements?

2011-10-22T06:31:00.000-07:00

Investors have unrealistic expectations of themselves. They expect to accurately time the markets and weave in and out of various assets ontime, everytime. That is the stuff of dreams and mostly remains in the domain beyond our consciousness.
The rabbits of this world think that they can take advantage of every rise and fall and mostly fail. But, let us for a moment assume that they succeed, will it be very useful for them?

Maybe not. Let us examine.

We save money for a reason. Lots of people save money for their children’s education, their own retirement, for building/ acquiring a home etc. Each of these goals have specific timeframes. And each goal has a priority. Investments for these goals, hence needs to be done in a manner consistent with the priority and timeframe.

That is why Financial Planners usually come up with an appropriate asset allocation that will be suitable for a family, based on their goals. Once such asset allocation is decided and invested, it is a good idea to stay invested and not tinker the portfolio, too much. Financial Planners generally invest with a longterm focus , to meet such goals. It is ofcourse necessary to periodically review the portfolio and see if the investments areperforming, as per mandate. If there is a degradation in performance in an investment, generally, it is reallocated into another investment in the same asset class.

However, there can be changes in the situation of the investor or in the macro environment, due to which major changes in asset allocation may be required. At some point, one may for instance take a strategic call to increase equity allocation by 10%, in view of reducing interest rates and the possibility of low interest rates in future. This kind of a strategic change may be required when previous assumptions do not work any longer.

However, there could be cases where one may want to take advantage of the current market situation to an extent without deviating much, from the strategic mean. After, a point, when the situation returns back to the previous normal, the allocation also comes back to the strategic allocation. An example will help here. Let us say the asset allocation suggested for Rameshwar is, 60% in equities and 40% in debt. Due to the current market conditions, the planner may now suggest a tactical realignment of equity to the extent of say 15%, 10% towards debt and 5% towards gold. That may be suggested as both debt and gold are performing well now and the planner may want to allocate to these assets, temporarily. After a time, the allocation will come back, more or less, to 60% Equity and 40% debt. So, tactical allocation may have a role to play but it cannot be allowed to change the strategic allocation itself completely.

Like it was mentioned earlier, strategic allocation can change only if there are major changes in the client situation or in the environment.

Running after the asset classes which are doing well currently and trying to reallocate to a particular asset class, can be detrimental to one’s interest and that is why it is not recommended. For instance, let us say Girish had 50% in Equity and 50% in debt instruments. Due to the fact that equity had not been performing well, he pulled out the money in Equities in April 2011 and reallocated to debt. He is currently happy that his investment in debt is doing well. This is temporary relief and his happiness will be short lived if he does not reallocate to equity eventually. .. for debt investment returns hardly beat inflation and the corpus will infact de-grow in real terms, if he does not come back to equities later. Since there is the timing risk when one allocates in and out of an asset class, it is normally better to keep the allocations intact, apart from a bit of tactical allocation, from time to time.

That may look like a status quo strategy… but the tortoise won eventually in the race, in that tale from Aesop’s fables. The tortoises are the ones who have the faith and patience in their strategy and stick it out. These tortoises win too.

Risk Assessment

2011-10-22T06:27:00.000-07:00

It’s funny how people respond to the same question, at different points. When things are going fine and optimism is reigning on the altar, people are buoyant and respond positively. The same question in more challenging times, evoke a far more gloomy, sometime diametrically opposite response!

But, many do risk assessment of their clients relying on responses of clients to basic questionnaires containing hypothetical questions. If the answers are going to vary so much based on environmental factors, like we saw earlier, how can this questionnaire be relied as a good indicator of the risk bearing capacity of a client? An example of a typical question in such a questionnaire is –“ What will you choose- a safe instrument giving 9%pa returns year-on-year or another that can give you 12% returns pa over long-term, but the returns every year can vary significantly, including being negative in some years?”. If you had asked this in year 2007, most respondents would have chosen the second option. If you were to pose the same question in 2008 or even now, most would look towards the safety of fixed income instruments!

If the answers vary so much based on the environment, how reliable are they? Clients have long-term goals and those need to be met. In fact this is the most important objective of a financial plan. From that perspective, a certain amount of risk may have to be taken regarding the investments to be done, in the interest of good returns. One cannot just stay invested in debt instruments alone like FDs, NSCs, PPF etc., as they give low real returns. Hence, a client is well advised to invest in Equity assets as well.

Now, if the risk profile shows up the risk bearing capacity of the client as very low, should a planner compromise on the goals and stick to the risk profiler? We have seen that the risk profiler itself could throw up different risk perceptions at different times.

A doctor does not ask the patient which medicine he would have. He simply prescribes them to him and the patient is to have them. The relationship that a financial planner shares with a client is similar. It is for the financial planner to understand the client situation, suggest appropriate instruments to invest in. It is his duty to also make the client understand why he has suggested that asset allocation and what the merits and drawbacks of such an asset allocation strategy are. The client will still have to take the call; but what the financial planner is suggesting is not based on the responses obtained in a simple questionnaire.

This kind of a questionnaire is arguably useful to someone who is just advising clients on investments and does not have complete information of the client and an understanding of his situation. But even then the limitations mentioned earlier, would very much be there. To circumvent this, a questionnaire has to be scientifically validated for consistency of outcomes, over a large sample and has to be standardized. This can help to an extent. It still leaves the other problem – if one were to strictly go by the risk profile, goals may not be met. Hence, there is no alternative to an informed diagnosis and a judgement from a Financial planner on this.

Financial Planning is not investment advisory

2011-10-22T06:25:00.003-07:00

There are terms which are used synonymously – but they actually mean two different things. You might have heard of many. Sales & Marketing is one such pair. They are often used interchangeably. Sales is the art of persuading a client to buy a product or service. Whereas, Marketing is the sum-total of all activities from product conception, branding, retailing, communications and beyond, whose overall purpose is to ensure product sales. But these two areas are entirely different. There is another funny indian-ism which I have heard – I’m going to the bazaar for marketing! ( which is their way of saying that they are going to the market to buy stuff ).

A similar confusion surrounds Financial Planning & Investment Advisory. Financial Planning refers to drawing up a blueprint to achieve the goals one may have, through appropriate use of the finances at one’s disposal. Investment advisory however generally refers to understanding client requirements and advising appropriate products to invest in.

An Investment Advisor ( as per Investment Advisors Act 1940 of US SEC ) is a person or a group that makes investment recommendations or conducts securities analysis for a fee. This clearly establishes the limited nature of engagement in case of an investment advisor as compared to a Financial Planner.

A Financial Planner is like an Architect, in the sense that an FP draws up a blueprint of what needs to be done on various fronts like liquidity & cash management, goals feasibility & planning, Risk management, Long-term cashflow planning, estate planning… Investment advice comes at the end in a financial plan, after all aspects have been analysed. It is a by-product of comprehensive analysis of one’s situation. In that sense, the investment advice will simply flow out of the analysis done. For instance, if the risk assessment shows that Rs.1 Crore of insurance is required, then that will automatically come in the recommendation.
Also, unlike in the case of an investment advisor, a financial planner will also look at past investments and offer advice on these, to dovetail with their overall plan. In a nutshell, a Financial Planner looks at one’s finances holistically, in the light of all the goals/ finances overtime.

However, since almost everyone in the Financial Services space – from an insurance agent to a MF distributor to a stock broker – all use the term Financial Planning in a way that is convenient to them, there is lot of confusion in the minds of the public at large. A chemist cannot call himself a Doctor. Similarly, an agent/ distributor should not be allowed to call himself a Financial Planner. Such legislation is the need of the hour. However, SEBI through it’s Concept Paper on regulation of Investment Advisors is proposing to call an Investment Advisor anyone who is offering Financial Advice, Financial Planning Services or any action that would influence an investment decision. This is extremely curious as financial advice, financial planning & something that influences an investment decision are three different things and cannot be clubbed under the single head of Investment Advice. Financial Planning is not Investment Advisory, though it is a small part of the overall plan. An Investment Advisor indicates a far more limited role than what a Financial Planner performs. More confusion will result if this concept paper sees the light of the day.

Again, many use the appellation “Financial Planner” just because they have completed a Financial Planning course but continue to be an insurance agent. This again confuses the normal investor as they see a person who is an agent use the tag - Financial Planner.

The need of the hour is hence for the investing public to know, who is a Financial Planner, who is an agent and who is a Investment Advisor. Only then they would know as to whom to contact for what. Simply calling a whole lot of people investment advisors would only confuse issues for the public and result in them approaching the wrong kind of advisors, which is precisely what SEBI may want to avoid.
A simple rule applies as always for you – Keep your eyes and ears open. Understand what a particular person can do for you irrespective of what they call themselves. Check out past work they have done; talk to a few references; check whether they have appropriate qualifications, standing & experience in the field. Finally find out what they are charging and evaluate for yourself if that offers a good value proposition or not.

There is just no alternative for keeping one’s one’s eyes open and ears to the ground. A healthy dose of common sense additionally helps!

Changing jobs will not solve your money woes

2011-10-22T06:04:00.000-07:00

There is enough depressing news in the papers these days – national & international. One persistent news that depresses me no end is how money is being wasted by our government. One of those was the hundreds of crores being spent in Mumbai on roads and yet the roads are filled with potholes. Hold your breath now… after being inundated with complaints about potholes, BMC awards contracts to the same contractors for makeover of those roads! Leakages abound in all government schemes like Public Distribution System, NREGS, government schools and most other public welfare schemes, where siphoning of funds even top 50%, in some cases. Is government plugging the holes? Nope, though it claims to do so. It just looks for sources to raise more revenue, when it first needs to plug the massive leakages. Coupled with it, government spends recklessly and runs deficits. This is the classic problem with most governments and the reason for the various crises across the world.

Reckless spending… profligacy, in a word. That’s the problem. Just like governments, we find the same problem with some of our clients. Thankfully, it is not as widespread as it is in the case of governments!

When some of these clients come for Financial Planning, we have problems. It surprises us that these people could have money problems at all, as most clients who come to us earn pretty well. In fact, in most cases, they are double income families. That’s why it surprised me when we found out that Raveena will not be able to meet some of her goals. Her husband Abhilash, again, earned a handsome packet. Still, it would be a challenge for them to buy a bigger home and ensure that they send their son abroad for education, like they wanted to.

At first, we thought we got some numbers wrong. We rechecked all the numbers and sought clarifications. The numbers we had taken in the plan were right, after all. What stood out like sore thumbs were the various expense heads – Rs.15,000 pm for fuel, Rs.26,000 pm for groceries/ provisions/ milk, Rs.10,000 pm for entertainment etc. The basic monthly expenses came to Rs.72,000. There was also a total EMI outgo of another Rs.63,000 pm. Apart from that they had other chunky annual expenses like Rs.3 Lakhs for Holidays & vacation, Rs.1 Lakhs towards Gifting etc. totaling Rs.5.9 Lakhs. They had committed expenses of Rs.95,000, towards insurance. All in all, they were spending with gay abandon with just Rs.1.6 Lakhs, as surplus in a year. That sounds like a positive story, while actually it is not.
Their burn rate is so vigourous that it leaves precious little for investments, to meet the future goals, including retirement funding. When I broke this news to them, their solution was simple. They almost nonchalantly said that they would change their jobs!

That was stunning news to me. What a solution! This is what every government does – increase the taxes. Has it ever helped? Nope. The problem is not income. It is expenses.

So I told them and an argument ensued. I argued that one should keep the expenses under wraps and be careful in upgrading the lifestyle, for it is easy to go up in life and very difficult to come down on it. They thought I’m too conservative and old fashioned.

They opined that they anyway change their jobs every 2-3 years and have no regrets about it. They also felt that if expenses go up, income can be made to go up too. So, if there is a need to save more, they can bring in more income. They were hence not able to understand, what I’m quibbling about.

I countered that though income can keep going up till a point, it cannot keep going up by huge margins, forever. If expenses keep spiraling, one will not be able to offset it by higher income. Also, higher expenses raises the bar forever. One will not be able to come down from that level. Moreover, more income will simply mean more expenses in their case, for that is how they have been living. I rested my case saying that more income will not solve any problems for them.

This was sobering for them and they wanted to think about it. Many in their situation are in denial about their spending and almost go into a depression if told to curtail expenses. But excessive spending is a disease and not being able to save enough for future is just the symptom. The pill that cures that is not more income. We need to attack the disease head-on, which is streamlining expenses. Only then the symptoms will vanish and the patient will recover. If continued for long enough, the situation will be like that of many governments today, where they spend much more than what they earn.

Income one earns is seldom the cause for concern. Excessive spends and lofty goals not aligned with income, are. Internalise this and your nest will be nicely feathered. Ignore it at your peril.

Authored by Suresh Sadagopan ; Published in Moneycontrol.com on 17/10/2011

Don't get carried away by one pet asset class

2011-10-22T05:59:00.000-07:00

I have always been fascinated by Raju, our friendly neighbourhood shopkeeper, who defies any slotting – for he changes stripes with the season. His is a stationery cum general store, normally. But, now his shop would have morphed into a fireworks shop, during this time of the year. After Diwali, he will get back to being a stationery and general store and again by Christmas, he would again do his Houndini act and transform it into a Gifting cum sweets/ bakery shop. And so it keeps happening throughout the year.

There is nothing like a core competence for him, unlike Miteshbhai. Miteshbhai is into stationery business and he sticks to it, like a horse with blinkers. But, in this field, he is an ace. His range is wide & his stocking deep. Even if he does not have an item when a customer asks for it, he notes it down and ensures that he has it in his shop. Hence, he is well known in the entire locality for stationery and has a loyal clientele. Miteshbhai has done very well for himself, while Raju is still a struggler.

Raju’s tactics of taking advantage of every situation finds resonance with people in various walks of life. Infact, the Rajus are generally considered to be “street smart” & Savvy. Yet, in the final analysis, the opposite is true.

This Raju-like propensity is displayed by many with their investments too. The smart-alecs think that they can move in and out of various investment products, riding the crest of every wave and switching to the next rising wave, timing the whole thing to perfection. This is what is currently being played out, when it comes to Gold and property. Gold has been doing well throughout the year. It has also given excellent returns for the last 10 years. Hence, there is a buying frenzy in Gold today. The assumption is that Gold will continue to climb in times to come and will prove to be a fantastic investment. In fact this is assumed to be the case and people come to us seeking advice whether they could put all or most of their investments into Gold.

The frenzy about property is similar. There are many who have tasted success in property investments over the past 5-7 years. This has given them an aura of invincibility and many see themselves as someone endowed with a midas touch. But, all boats are lifted by the high tide. It is only when the tide turns, we will know who has been swimming naked, as Warren Buffett had once colourfully remarked.
Predicting the ups and downs of one asset class is one thing. This may help in making money. But predicting that to a nicety and doing it with different asset classes over and over again, is entirely another. Different asset classes have different dynamics. One needs to see the risk attached to the investment class, liquidity, tenure, taxation and other aspects before choosing the correct mix.
Choosing the correct mix of asset classes based on one’s goals, is of paramount importance. At different points, different asset classes will perform well. The assets one chooses should match the time frame when the proceeds are required, the risk one is willing to assume to get the returns, liquidity etc. Some asset classes like equities may perform well only in the long-term and one has to give it sufficient time to deliver results. In the short-term, the volatility in equities could be gut-wrenching. So if one has chosen equities as a part of the overall asset-allocation, short-term volatility will not cause any disruptions and heartburns.

The next on the totem pole is diversification. No matter how well an asset class is performing, it is always a better idea to spread one’s investments among the various asset classes – for overtime, one asset class can slacken and another will take the slack. Not for nothing do we have a wisecrack like “Do not put all your eggs in one basket”.

Choosing just Fixed Deposits or Gold or Property , just because they do well now, is hence not a great idea. Choosing the product which is currently doing well and cycling among those from time to time, will again not meet the longterm objectives. For one, in this process of choosing the current favourite, one may actually get trapped in the down cycle – like in properties ( which has long cycles ). The other is that, one will end up with the wrong set of products that do not meet one’s requirements overtime.

Jumping from one to the other product may look exciting. But sticking to a pre-meditated asset allocation strategy brings home the bacon. Miteshbhai can vouch for that. Due to his roving, free-wheeling ways, Raju ab tak nahi bana Gentleman!

Authored by Suresh Sadagopan ; Published in moneycontrol.com on 14/10/2011

Should you invest in Equity now, as opposed to Mutual Funds?

2011-09-05T06:36:00.000-07:00

This is a loaded question. This does not have a simple Yes/ No answer and depends on a person’s risk taking ability, return expectations combined with the ability and inclination to manage a share portfolio, as opposed to simply investing in MF schemes. However, if the same question is posed in the context of the current downward slide in the markets, the answer could be far more definite.

Consider this… can a person used to swimming in a pool switch to swimming in an ocean / river at will? The answer seems self-evident as swimming in a pool is far easier as it is a controlled environment. Swimming in a river/ ocean is far more difficult as one has to contend with the surging waters, currents & whirlpools. There are ofcourse other lurking dangers like alligators, sharks etc., which can cause harm. So, swimming in the pool is far easier & safer as compared to swimming in the river / ocean, which apart from the perils involved, also calls for higher level of skills. It even involves different, special skills, not required in a pool.

That is precisely the difference between investing in Mutual Funds and Equity. Mutual Fund investments are far safer as there is a fund manager who takes care of the investments and whose only mandate is to monitor & manage the investments. Not much knowledge is required from the investors’ side, except for the due diligence on selecting an appropriate fund to invest, in-line with their requirements. Over time, the investor just needs to check if the fund manager is sticking to the mandate and is delivering a return superior to the corresponding index and the category, enough to justify the charges. Also, if the investor does not want the fund manager discretion and wants to invest in the broad economy, he could invest in index funds. This is even simpler, as there is not much work here, except which index they would like to invest in and what the charges are for managing it.

Equity, however, is a different ballgame. Here, the investor needs to analyse & choose the equity share to invest in. This is easier said than done. Choosing a good equity share requires broad understanding of the economy, sectors & the company itself. One has to go through the financials of the company like Balance sheet, P & L a/c as well as all parameters indicating the health of the enterprise. Most people do not have the capability or inclination to do this. They take the shortcut of taking tips or simply choose bluechips. The former makes you a sucker and the latter is not that very helpful – as you could simply have invested in an index funds if you want to go for bluechips.

In the current situation, what is to be done? Does one change the way one is investing?

The proximate cause is that an investor hears that some stock’s prices have come to 50% levels of what was prevailing a year ago. There are others which have come down by 80%! That gets investors salivating. If there are major drops, there would be reasons for it. Assuming that it has dropped due to market conditions would be wrong. GTL Infra & KS Oils are cases in the point. For KS Oils the 52 week High/low is 63.1 & 7.7 and that for GTL Infra is 48/ 10.5. The drops here may make one salivate and invest in them; but these companies prices have come down because the equity shares pledged have been sold to recover the money. That hints at a cashflow problem for these companies and hence caution is advised. What this illustrates is that, just a price drop is not sufficient reason for picking up a stock.

Investments are done with a purpose. Admittedly, there is more than one route to get to one’s goal. However, changing from Equity to Mutual Funds or vice versa, may not be warranted just to take advantage of a falling market. Those investing in Mutual Funds should continue to stay invested there – for the fund manager would be able to take advantage of the situation, much better than any individual investor. Those who have been investing in equities, however will have enough knowledge to pick and choose the right investments. For them, equity markets at this point provides great opportunities. Equity investors can consider MFs, to bring down their risk.

In summary, one need not change the investment strategy due to market conditions. Rather, it is better to stick to one’s strategy – be it equity / MF investing.

Authored by Suresh Sadagopan ; Published in Business Standard on 4/9/2011

Timing the market & investor psyche

2011-08-25T06:23:00.000-07:00

With the mayhem unleashed due to the downgrade of US to AA+, markets across the world have experienced correction. In times like these, logical thinking is the first casualty. There are market observers who suggest that there is more pain and the market can trend down. There are those voices which are harping on the popular sound-bite that “Cash is King”. There are other more optimistic ones who suggest that markets have been anticipating this and are already factored into the fall. By implication, what they mean is that the downside is limited and the upside potential is higher.

Now such divergent voices are what cause confusion for the normal investor. As it is, they are scared as the markets are falling. Do they invest now, hold on to what they have or cash out?

Timing the markets has always been a subject of much debate. Paradoxically, retail investors tend to think that they can time the market well, based on what they read and hear. That is surprising as timing the market is virtually impossible, even for the most savvy investors, which includes fund managers.

Ironically, that is the advice investors want today from their advisors. So, what can the investor do…

First, they need not change their allocations now to accommodate the new kid on the block which is firing on all cylinders – Gold. Most people have long-term goals and meeting them would require a consistent strategy. One should not look at changing the strategy overnight, whenever there is some change in the environment. The strategy would have to be revisited only if the events have considerably changed the risk-return possibilities over the period, which calls for such a change. This is not one such event.

Indian stock markets have been considerably driven by FII money and when money moves back to western shores seeking “safe havens”, the markets fall. But, if one looks at the indebtedness of the various countries and the prognosis for their economies from here on, FII money will sooner than later come back to emerging economies with potential. India is one such economy, which has the potential to grow at 7%+ levels. Hence, it is a fact that though there are short-term problems, the medium to long-term outlook is good.

Hence, apart from changing some tactical allocation & tweaking the portfolio a bit, one should let the strategy remain intact. This means continuing SIPs/RDs which are going on, continuing with the investments done in the past to achieve long-term goals and not attempting a major change of the allocation just because Gold seems to be the star on the horizon. Gold continues to be a good hedge against inflation and due to it’s negative correlation with equities, it also reduces risk in the portfolio. The way Gold has run up does not bode well for this commodity and correction can happen in this, in times ahead. There seems to be a bubble building up in Gold but people don’t seem to be recognizing that. There are those who are going whole hog into Gold after liquidating investments from other assets, which is not a good strategy at all.

Since the markets are in correction mode, it may be a good time to invest in Equity and Equity oriented Mutual Fund schemes, for those with a long-term view. Such investors should split their investments and invest in small lots, over time. This will enable them to invest at low market levels and take care of volatility.
Investor psyche comes in the way here… there are those who want to shift their money away from equities and into FDs and other such debt instruments. That again is not a good strategy. Investing in equity at this point would give the best bang for the buck. Whether investors see it that way is another issue. Currently they are running scared – much against their best interests.

Authored by Suresh Sadagopan ; Article published in Moneycontrol.com on 18/8/2011

Assured return instruments, a must in all portfolios

2011-08-25T05:59:00.000-07:00

Bhaskar was in a good mood. He was smiling presently and was in an elevated frame of mind. He was showing me his collection of Music & video CDS/DVDs and was explaining animatedly about some of his new acquisitions. I was happy for him. It was not always like this, though.

Bhaskar is one of those high-adrenaline types, who thrives on taking risks. In fact for Bhaskar, nothing look like a risk. For that reason, he has also been pretty successful in his entrepreneurial ventures where this risk taking ability nicely blended with his good eye for spotting opportunities and moving in decisively.
Bhaskar however was a miserable pulp 3 years before – in 2008. He had bet on Equities in a major way and had been doing very well. Like all those who taste huge success early on, he took too huge a risk by betting on various momentum players, with borrowed money. He lost crores of rupees in 2008.

That is when he had come to me. I had to calm him down and firstly make him see the sunny side of things. He was so dejected that he just saw gloom all around. I had to remind him that he had thriving businesses and he would be able to bounce back from the setback. I also told him that we will have to redo the portfolio and bring some sanity into it.

The first thing I had to do was to educate Bhaskar on the need for diversification, appropriate asset allocation, streamline investments in line with the goals, discipline & regularity in investments, investment horizon etc. It was not that Bhaskar was unaware of these… he just ignored all these due to his gun-slinging-cowboy like attitude towards investing.

When I had suggested that he rebalance the portfolio and have a decent allocation towards debt instruments, he had glared at me. He was incredulous that I was even suggesting this, I had to spend time…

Investing in instruments which give high returns were fine. But in one’s portfolio, there has to be a good mix of all kinds of assets from low risk-low return instruments to high risk-high return ones. The low risk instruments tend to be debt instruments, which are not very exciting for a person like Bhaskar. He infact made me say that the post-tax returns in debt instruments may not even beat inflation. But still, I insisted that these instruments will ensure that the capital is safe and some returns accrue from them. In fact these kind of instruments should form the bedrock on which one’s portfolio edifice needs to be built. These instruments are the ones that steady the portfolio.

Again there are different debt instruments and one needs to make appropriate choices. PPF will be a great choice for those with a long investment horizon. This will be suitable for accumulating one’s retirement corpus, children’s education / marriage requirements etc. Also PPF gives a decent 8% post-tax returns. PPF was started with the objective of giving access to a Provident Fund like account ( which is available to Organised sector employees ) to others who do not have access to PF. PPF was created with the mandate to assist individuals to build their corpus for their retirement needs.

Post office MIS helps those who want regular returns. Kisan Vikas Patra is another product with a 8 year 7 month duration, which doubles the money in this time frame. In the current regime, it is not all that attractive. Bank FDs themselves are offering 9.25-10% returns for 1-2 year tenures. There are Bonds & NCDs which are coming out with attractive rates too. Company Fixed deposits are offering between 9-11% pa. But in all these instruments mentioned, the interest income is taxable.
That however does not diminish the merit of having these in one’s portfolio as one requires stability too. The others which can potentially offer better post-tax returns are Fixed Maturity Plans from Mutual Funds. Apart from this there are several debt funds which could offer good post-tax return as the interest rate cycle is expected to turn sometime from now. Dynamically managed funds are best bets at this juncture. Apart from this, in times to come, Income funds with longer maturity papers and Gilt funds themselves would pose good opportunities.
The main point that I wanted Bhaskar to appreciate was that having these in the portfolio improves the chances of the goals being met, not the other way round. I had to hammer it across, that equities, though it offers good returns, carries high risk. He was not very convinced, though he reluctantly gave the go ahead to redo the portfolio. He did buy some equities after that too! And now they are trading at at a loss. But Bhaskar is not bothered. He has now understood the importance of his debt portfolio, secure in the knowledge that nothing can affect at least this portion. It helps that I had suggested 45% in debt instruments for him as he anyway takes high risk in his business. So you know why Bhaskar is atwitter now!

Authored by Suresh Sadagopan ; Published in The Financial Chronicle on 24/8/2011

It’s a good time to invest in debt funds…

2011-08-11T23:34:00.000-07:00

Investors at this point are running scared from the Equity markets into the arms of their evergreen love – Bank Fixed Deposits. Bank FDs are giving between 9-9.5% for one to two year tenure. There are very few banks which are also giving around 10%. If the investor is a senior citizen, they can get another 0.25% - 0.5% extra.

So, is that the best place to invest if you want to invest in debt instruments? It may be if are not paying tax at all or you are in the 105 bracket. But for those in higher income tax brackets, FDs are not the most appropriate instruments to invest in – for the post tax returns would make it less attractive and other competing. Think again, if you thought that there is no competition to the bank FDs, which are offering better returns as compared to NSC, KVP, Senior Citizen Savings Scheme ( SCSS ), PPF etc.

You have debt funds from Mutual funds. For various durations, you have good investment options.

If one wants to invest for short term, one could look at Quarterly Interval Plans ( QIPs ). The instruments which go into these namely CDs and CPs are offering now about 9.1% & 9.4% respectively. Factoring a 0.4% as expenses, the returns come to 8.7% - 9%. It is always desirable to choose the dividend option as the Dividend Distribution Tax (DDT ) is 13.5% now. Taking that into account the post- tax returns would come to 7.53% - 7.79% returns! Not bad for a 90 day investment, where banks offer between 4-7% pretax returns. In fact the returns from even the one year FD for a person at 20% tax slab are between 7.2-7.6% post-tax and for another at 30% tax slab, it is between 6.3- 6.6%. The post-tax returns from QIPs are on par or beating even one year FD returns! So, why not simply invest in QIPs, keep the liquidity intact and keep rolling over, if money is not required. This makes sense especially if you want to invest for the short-term.

FMPs used to make sense too. But with DTC looming on the horizon and impending changes in LTCG, it may be a good idea to roll over the QIPs till March 2012 and then invest in an FMP which matures after April 2013. There are 3 -6 month FMPs too, which one could invest in the dividend mode. Investing in QIPs & 3-6 month FMPs will be beneficial as the Dividend Distribution Tax ( DDT ) is 13.5%. Short term capital gains ( STCG ) on the growth option is at one’s Income tax slab rates and will be suitable only for those in the 10% tax bracket or who do not have to pay tax at all.

For LTCG treatment, the investment has to complete one year from the end of the financial year in which it is invested as per DTC. So if you invest in March 2012 and the investment matures in April 2013, it will be eligible for LTCG. However, though indexation is allowed, the income would be taxed as per the tax slab. This will be positive for those in the lower slabs and will entail higher tax for those in the 30% bracket. QIPs and 3-6 month FMPs maturing in Feb / Mar 2012 can be used for investing in FMPs which mature after April 2013, to claim indexation benefit.
The other debt funds to look out for are Income funds and actively managed funds, for those with a medium to long-term horizon. The interest rate cycle has more or less run the course and income funds will particularly do well. If the investment horizon is 1.5- 2 years or more, this will be a good investment option. Don’t panic if it shows negative returns for a few months though. It will, till the interest rate cycle turns.

The other safe bet at this point would be actively managed debt funds, where the fund manager takes a call on the duration of the papers invested, the type of instruments in the portfolio, timing of the investments etc. Well managed active funds can again reward the investors handsomely. Also, the fund manager would ensure that you don’t slip to negative territory due to the calls he takes. Again the suggested investment horizon would be 1.5-2 years.

Both income and actively managed debt funds have the potential to offer double digit returns. These are indeed better options than bank FDs!

Authored by Suresh Sadagopan ; Published in moneycontrol.com on 12/8/2011

Has anything changed after the MF transaction fee introduction?

2011-08-10T00:15:00.000-07:00

The entire MF industry has been waiting with bated breath for the new Chairman of SEBI to release them from the vortex of downward spiral, it has found since the past two years. Distributors have deserted the system as it was no longer remunerative enough. This resulted in too many orphan cases – investors who are not being serviced by anyone at all. No wonder that tens of lakhs of equity folios have been closed, in the past couple of years.

The abolition of entry load was positioned as the ultimate investor friendly step and media went to town, buying into this story hook-line and sinker. The simple fact is that for any market to function, one will need a functional system where all participants perform their function effectively and they all get their due. A win-lose relationship seldom works. It is a utopian idea that distributors will work for free. Distributors deserted the system as they were unable to charge a fee and the entire business had turned unremunerative.

Now, SEBI has brought in a fixed transaction fee for sale transactions - Rs.100 per existing folio and Rs.150 for a new folio, for investments of Rs.10,000/- or above. This does not cover any other transaction like STP, redemption etc. For SIP transactions (any amount / any tenure), it would be the same fee collected in three to four instalments. This has been ostensibly done to incentivize distributors penetrate the retail segment in small towns.

So, will this help? Let’s see. The awareness in smaller towns about MFs will be lower than in Metros and bigger cities and consequently more time and effort needs to be spent on an investor. After spending time, the distributor may still not get anything out of it – as the investor can invest direct, in which case there are no transaction charges and can also invest less than Rs.10,000/- through the distributor, without charges. This could pose a problem to a genuine distributor trying to suggest MF investments to potential investors.

Also, even if the distributor gets the charges, it is the same for Rs.10,000 or Rs.1 Lakh. It is fairly evident that an investor investing a few thousands will want a lower level of service as compared to another investing Lakhs of rupees. This fixed transaction fee will hence not be of much use, as, for a Rs.10,000/- investment in an existing folio would give the distributor 1%, whereas it will give 0.1% if the investment amount is Rs.1 Lakh. It is obvious that fixed charges have their limitations.

Additionally, it will open the field for unsavory practices too. There is nothing stopping a distributor from splitting a Rs.1 Lakh investment into 10 new folios and earning a 1.5% transaction fee. Investors would not even know what is happening and will be saddled with a huge number of folios. This will increase the number of folios ( especially with investment of Rs.10,000! ) and will seem like a vindication of SEBI’s stand. But it may just be a simple break up of investments, as discussed earlier. It could also give rise to churning, to earn transaction fees. Those could be the unintended consequences.

So, who is going to benefit from this? Some distributors who are into real retail segment and who have not been able to charge a fee of any sort, will benefit as they will get some fee to defray their marketing expenses. The retail investors will also benefit to an extent as now the distributors will again become “available”. But this regulation is hardly a game changer and has as much positives as there are negatives. What actually happens on the street remains to be seen. Caveat Emptor still should be the guiding principle for the investors.

Authored by Suresh Sadagopan ; Published in moneycontrol.com on 9/8/2011

Investing tax efficiently can mean whether one meets the goals or not

2011-08-01T07:24:00.000-07:00

Most people are super-conscious about tax savings… I mean, they would go to any lengths to take advantage of Sec 80C limit of Rs.1 Lakh. They would want to go for medical insurance just to take advantage of the Rs.15,000/-pa available under Sec 80D. Even if they are in the lowest income tax bracket of 10%, many would still want to invest in infrastructure bonds, though it has a lock-in period of at least 5 years. When people are so keen to save tax upfront, why would they want to pay taxes on the money they are earning, especially if they can structure it in a way, they need not?

Let us take an example to understand this. Ram invested Rs.30,000/- in NSC and Rs.40,000/- in PPF in the previous Financial year. While the amount of tax saved is identical in the year of investment, the interest income accrued from these two, are taxed in different ways. NSC interest is taxable in the hands of the investor, when they get the money after six years. The return would be 30.9% less ( that would be the tax outgo in the highest bracket ), when they get the money back. However, PPF is entirely tax free. Hence, the entire amount one gets is tax-free. Though both of them have offered similar returns, the actual returns they have offered is vastly different. Ram could have invested the entire Rs.70,000/- in PPF and could have ensured a higher return for himself… that is assuming that he is willing to lock-in his PPF investments for 15 years. A simple decision can make such a lot of difference.

Now, look at regular investments… many invest in bank FDs. In fact, it is a vehicle of choice for our citizens, many of whom are risk averse. But, apart from PPF, is there a better, higher yielding alternative of lower duration? The answer is in the affirmative. You have heard them – Fixed Maturity Plans ( FMPs ), the current darling of the MF industry.

These products invest in a basket of securities which include Bank CDs, Company commercial paper, structured obligations, Bonds etc. – meaning, all these are debt products and FMP is a 100% debt product. So, how is it going to give a better yield? Are the components more risky than a Bank FD? If it has other than Bank CDs in it’s portfolio, then the risk profile is going to be higher. Does, that explain the better returns we are talking about? To some extent, that explains a potentially higher yield. But, the other aspect is the tax treatment of FMPs, which is far more benign… if one gets a dividend, it is tax-free. Dividend distribution tax would be 13.52%, which would be paid by the company and indirectly the investor would be paying it… much better than paying 30+% tax!

In the growth option, it can be 10% without indexation and 20% with indexation. Now the 20% with indexation option, used to ensure little by way of taxes. That could change with the advent of DTC. DTC as proposed says that after indexation the capital gains will be subject to tax at the income tax slab rates. Also, Dividend is proposed to be added to income. These could affect the attractiveness. But still growth option where tax applies after indexation is always better than paying tax directly on interest earned.

Why did I not mention Equity MFs and Equity? Yeah. The income after a year in these are treated as capital gains and are currently nil. That makes them very attractive. But they are a different asset class altogether and can give higher returns but come with higher risk too.

In substance, one should look at the tax incidence / savings on the product over the product life cycle and not only while investing. That can mean a difference Lakhs of rupees over one’s lifetime. That could be all the difference between achieving your goal or adjusting & making compromises. If you just get that, you have learned more than enough for a day!

Authored by Suresh Sadagopan ; Published in Moneycontrol.com on 27/7/2011

How to determine the proper fee for a financial plan?

2011-07-29T22:55:00.000-07:00

Let me start with a question… What would you say if you are offered a car for Rs.4 Lakhs? You would obviously want to know which car it is, whether it is new/ used, what are the features etc. and then you would use your judgement to conclude if the car is indeed worth the buy. What you have done just now is to evaluate the value embedded in the offer and then find out if indeed the asking price is at least equal to or higher than the value offered, in which case you will buy the car. Else, you will not.

In fact, this is precisely what we do before any decision.

If you get a novel at Rs.99/- it is seen as good value and you would buy it. If the same novel is Rs.750/-, you probably won’t buy. A movie ticket in a multiplex at Rs.100/-is seen as a value proposition, whereas you may not want to pay the same amount for a ticket in your neighbourhood theatre.

McDonalds is doing brisk business with their burgers priced at Rs.25/- and is seen as a value for money offering, whereas the vada pav which is also a burger, is available at Rs.7 at roadside stalls and at Rs.10 at Jumboking. All of them are seen as good value for money by different people and hence they all have a loyal clientele.

The thing to understand from this is the value proposition. For anyone, the cost alone is never the main or the only criteria. The value proposition comes from the entire set of benefits offered, not just price. Now, that is easy if there is a frame of reference. You could determine that Okra at Rs.30 a kilogram today is cheap, because it had been selling between Rs.40 – 60 a kilogram, for the past several months. A multiplex ticket at Rs.100 is seen as pretty good value, as it normally costs between Rs.175 to Rs.250 per ticket. Saw that?

Financial Planning is a new area. There is nothing to benchmark this with. So, how does one figure what is the right fee to pay?

Look at what you want. You probably want to hire a financial planner to get a blueprint for your life ahead and want to know as to how to achieve your goals. For creating a tailormade financial plan, our experience is that it takes 25-30 manhours, in all. Taking an average of Rs.500/-per hour for hiring the services of a qualified financial planner like a CFP(CM) certificant, the fee comes to Rs.12,500/- to Rs.15,000/-. But the per hour rate can be higher or lower depending on the process followed, experience & expertise of the planner etc. That’s about how planners arrive at their fee.

Now, is that value for money? For that you need to find out what benefits would derive by engaging them. The financial plan will give you clarity, direction & pathway to achieve your goals. That is important as you will know where you are, where you need to go and how to get there. The financial planner will also suggest if past investments and insurances are good to keep or are damaged goods and needs a rejig.

A good financial planner will also help a great deal in cash management – matching the right instrument for the end-use & tenure. We have found that the amount of extra money we could make for our clients by judicious investments, would more than pay our fees! Add to that, the fact that the Financial Planner would be the touchstone on anything to do with your finances – ensuring that you will not blunder while allocating between asset classes or the choice of products… you will also not be sweet talked into some card-castle-of-a-product, which makes sense only to the company & their agent.

You got the drift… there are various advantages you could derive from a financial planner. Find out from the planner, about the various services you can get. Find out how much money the planner can save/ make for you. Add to that the fact that you will have a clear blueprint which ensures peace of mind as you have an expert to guide you on finances all through the year.

The planner would also stanch leakages by stopping / reallocating resources into appropriate products, which improves returns and relevance. Find out how comprehensive the plan is… for the financial plan from different planners could be really different. Do a quick check about the integrity & dependability of the planner. Ask for references, if you feel the need for it.

Fees differ based on the experience & expertise of the planner, reputation, their processes, services offered, people strength ( is it a single person or is it a team ) etc. Now, after understanding the value offered, you can decide if the fee is appropriate. Now you can decide whose offering is good for you.

Authored by Suresh Sadagopan : Published in The Economic Times on 28/7/2011

Is NPS a good choice for retirement funding ?

2011-07-18T04:21:00.000-07:00

“I want to enjoy life in Rishikesh, after I retire”, Mayank was telling me one of the evenings when we were discussing about work, life and everything in between. He has been saving for it too. He wants to take New Pension Scheme (NPS) as he has seen lots of favourable coverage about it. He in fact knew about CRIISP Report on reforms proposed for NPS. He was saying that the committee had found the structure of the product itself flawed in that it depended on buyer pull rather than being actively sold. The report was proposing to incentivize both Points of Presence ( POP) as well as allow fund managers to earn a remunerative fee to make it worthwhile. He was wondering still why it did not appeal to people.

Mayank knew that it has the lowest Fund management charges, that existed today. I agreed that it is low at 0.0009%pa. Mayank, in fact, knew a lot more… enough to write a product review!

Funds for Investment : There are three funds to choose from. A person can choose to invest in a Equity Fund (E ) , Fixed Income fund other than Government Securities ( C ) and a Government Securities Fund (G), according to the preference of how much risk a person wants to assume for returns. The Equity fund is an index fund that tracks NSE Nifty 50 or BSE Sensex. You can actively allocate the proceeds to the different funds, if you choose to. In the Equity Fund, you could place not more than 50%, in this case. However, you are at liberty to allocate upto 100% in any of the other two funds.

You also can choose the Auto choice for allocation of your investments. In this case, the allocations are made as per the age in the three different funds and they are rebalanced every year, automatically, in a predetermined way. Upto 35 years, there will be 50% in Equity & the balance will be in C & G. From the 36th year onwards, Equity allocation keeps coming down and more money gets allocated to the other two funds. This will be useful for those who do not want to manage their funds and the proportion for themselves.

There are 6 fund managers currently. The investor needs to choose the one of his/her choice necessarily. The returns generated by the fund managers ( for year ended March 31, 2011 ) are widely different in all the three funds. In the Equity fund, the returns of the various funds varied between 8.05% - 11.89% compared to Sensex and NIFT Y returns of 10.94% & 11.14% respectively. Similarly in the C fund, the returns varied between 6.26% – 12.66% and in the G Fund it was between 6.97% – 12.52%. It was found that the best performing fund in one category was not a best performer in other categories as well. One can invest in all three funds, but with one fund manager only. This means that if one invests with one fund manager and invests across funds, there will invariably be one or more funds that are not performing to potential.

Charges : There is a one-time account opening charge of Rs.50/-. Annual Maintenance Charges are Rs.280/-. There are charges per transaction of Rs.20/- at the Point of presence (POP )& another Rs.6 by the Central Record keeping Agency (CRA). The POP also charges Rs.40/-for intial subscriber registration and contribution upload. There are custodian charges of 0.0075% p.a for Electronic segment & 0.05% p.a. for Physical segment & the unbelievably low Fund Management Charges ( FMC ) of 0.0009% pa.

Types of accounts : There is a Tier 1 account, a non-withdrawable account, into which you contribute for building the retirement corpus till age 60. At, age 60, you would have to annuitise at least 40% and the remaining can be withdrawn at one stroke or in a phased manner. If you withdraw before age 60, you will have to compulsorily buy an annuity for 80% of the accumulated amount and could withdraw only 20%. One could also open a Tier 2 account, which is akin to a Savings account. One can put in and withdraw money anytime here. A person having Tier 1 account can open a tier 2 account, without any further charges.

Mayank seemed to know his stuff. He was able to rattle out so much information. He now wanted to know from me, if it is good to subscribe. I told him I see lot of positives and some negatives here and that he should decide after hearing me out.

Positives – A comprehensive, low-cost way of building one’s retirement corpus. Since it has a tier 1 & tier 2 accounts, it neatly addresses the long-term and short-term needs of an individual. In the Tier 2 account, since there are no exit loads on withdrawal anytime, it is like a savings account, which can potentially yield better returns. The charges being low, is a positive for the investor. Portability of the account across the country is a big positive.

The negatives – Since there is little incentive for the Points of Presence ( POP)to sell the product, Banks and other entities are just not interested in promoting it. In fact, in many banks they don’t have the forms. No one is selling it and awareness is still low, leading to very poor penetration of NPS among the public. The fund managers too have little incentive - for the fund management charge is 0.0009%pa! Anything that is win-lose proposition, won’t work. If they have to commit good people, they also need to earn something. For all three funds, there is one fund manager. This restricts choice for investors as they may want to keep the money in Equity fund with one & debt fund with another, much like in Mutual funds. Taxation as it stands today is against pension products. All annuities are currently taxable as income.

So. Mayank, it’s your call now, I had said. Consider all these aspects carefully and take your call. It is certainly not a bad product. It has it’s limitations, however. The other options which you could consider is to invest in a basket of securities from PPF, FDs, Bonds, Debentures, debt funds, Equity oriented products etc. and accumulate a corpus till retirement. At retirement, an immediate annuity can be taken , if required. This offers flexibility during the investment phase and a choice to choose the annuity provider at retirement.

Article by Suresh Sadagopan ; published in Business Standard on 17/7/2011

Four things you should not do if you have MF investments

2011-07-12T07:39:00.000-07:00

When it is high tide, it lifts all boats. Irrespective of which fund one is investing in, an investor makes money. It is when the markets turn, that the investors find that some of the funds are found wanting and feel the pain. Warren Buffett, in his inimitable style had referred to the very same thing… When the tide turns, it will show who has been swimming naked!

That’s how many investors feel now – naked… exposed. That brings an irrational fear and many tend to take rash decisions at these points. But such decisions will only backfire on you. There are some things which an investor should not do now. Here they are –

1. Exit in a hurry – That would be one of the worst decisions. There are any number of people who had predicted in the recent past that the market will touch a sensex level of 15,000. But, it has gone up to 18,700 levels. Markets have a way of surprising even the most seasoned operator. Many think that they know enough to predict the market. The fact is that there are far too many variables for anyone to predict the market correctly. The most important thing to understand is that Equity markets perform, over time. Sensex has returned about 18% CAGR over the period from 1979. That should give you comfort. Though stocks go through their periods of gut-wrenching correction, they would perform over time. You could review your portfolio and remove deadwood and average performers. Other than that, just stay invested.

2. Stopping SIPs – This could be the second worst decision. SIPs essentially help you to invest without resorting to timing the market. In fact when the markets are doing badly, if you persist with your SIPs, it helps in purchasing at low prices, which will yield handsome returns when the market turns, as it eventually will.

3. Shifting from Equity to debt - If this is a part of the asset allocation strategy, it is fine. However, most times, it is not. When equity markets plunge, panic grips investors who just want to flee to the safety of debt funds. Debt instruments today are probably offering one of the best returns in a long time, what with interest rates at near peak levels. Keep the equity allocation intact. In fact, if you really want to play by the rules of asset allocation, you should increase equity allocation as they have lost in value and to restore the original allocation one needs to invest more in equity. But this is easier said than done.

4. Trying to time the market – Most people, including yours truly, have burned their fingers trying to time the markets. We all have that brimming self-confidence about our ability to get the timing perfect. But that works very well in fairy tales – not in real life. Yet, almost everyone is trying to do just that. I, for one, have realized that timing the market correctly is next to impossible. Simply stay invested for the longterm, instead of redeeming when you feel the market has reached it’s peak and trying to invest when the has reached it’s lows. Chances are, both times you might get it wrong.

Panic not. Continue your SIPs. Forget about shifting from Equity to debt to maximize returns – you might actually underperform when the markets start their phantom-rising act. Time in the market is more important than timing the market. I know it is a cliché… but worth it’s weight in gold.

Article by Suresh Sadagopan; Published in Moneycontrol.com on 12/4/2011

The magic of FMPs

2011-07-12T07:35:00.000-07:00

Hemant is down in spirit as his substantial stock investments have come down in value. He is cursing himself for investing so much in stocks, much against his native intelligence. He now wants to invest money in Fixed income instruments like FDs, NCDs, Bonds etc. His friend Manish counsels him not to panic about the Equity investments, and suggests that he even increase the holdings in Equities as the equities as percentage of his assets would have gone down. Hemant was looking at Manish, as if he were a gibbering baboon.

Manish understood and changed tack. Most investors including Manish, are wary of investing at this point, given the volatility. At an intuitive level, Manish understands that it would be a good idea to invest in Equity now. But, he just does not have the will to follow that through. Hemant wanted something safe.

Manish was now explaining to Hemant about FMPs. Debt instruments were offering good returns. But when he heard that the post-tax returns in a Fixed Maturity Plan (FMP) can be as high as 8.5- 9%, he was salivating. Bank FDs, were offering upto 10.5%pa interest. That looks impressive. But, for a person in the highest tax bracket, it translates to a post-tax return of just 7.25%. The difference between the returns offered by FMPs is between 17-24% more than FDs, on a post-tax basis.

Hemant was all ears… he wanted to know all about FMPs. Manish started to explain. FMPs are essentially debt Mutual Fund schemes with a tenure, which invest in a basket of securities like Certificate of Deposit (CD), Commercial Paper (CP), Structured Obligation, Bonds etc. There is no equity exposure in these. The tenures can typically range from 90 days to 3 years, though the most popular ones are those of one year plus duration. There is a reason to this. Hint – taxation.

The tax treatment in a debt Mutual Fund of which FMP is a part, is benign. It is subject to capital gains tax of the lesser of 10% without indexation and 20% with indexation. Assuming that the FMP gives a gross yield of 10.5%, the yield after tax comes to 9.45% & 9.8% respectively. The charges typically are about 0.2% - 0.4% in FMPs. Hence, the net return after charges in this example, would still be above 9%. One year CDs are yielding over 10% now, making FMPs an attractive proposition. Hemant was warming up to this subject.

Hemant wanted to know about the taxation treatment in case of investments of less than a year duration. For debt funds of less than one year duration, Capital gains are taxed at the applicable income-tax slab rate. That makes those FMPs below one year duration on par with a bank FD. However, if one goes for a dividend distribution option, the net return is still much higher than in an FD. Manish continued his illuminating exposition.

If one were in the Dividend distribution option, the Dividend distribution tax (DDT) is applicable. That tax is to be paid by the Mutual fund. The Mutual fund pays that tax and distributes the balance amount to the investor, which is tax free in the hands of the investor. The DDT is 13.519%. Hence, if a scheme is offering 10% returns, the post-tax returns in the hands of the investor is still a very healthy 8.65% annualized return. This makes FMPs a very good option for investors.
Manish concluded… for FMPs of less than one year duration, one should opt for the Dividend option & for those with over one year duration, Growth option is the best choice, especially if one is in the 20-30% tax bracket. Hemant was by now sold on FMPs.

Article by Suresh Sadagopan ; Published in Moneycontrol.com on 7/7/2011

Is Financial Planning akin to Wealth management?

2011-07-09T03:00:00.000-07:00

When I was a boy I used to get confused between a tadpole and small fish. They looked alike, swam as effortlessly and looked so like each other. But they were different – I came to know later. One would eventually jump out of water and the other will stay in water, for life.

Financial Planning & Wealth Management are not so different from each other ( at least by definition ) and yet they are different in significant ways. But they are different actually in practice. The terms are confused and used interchangeably by lot of people… they are not the same.

Financial Plan is a blueprint to achieve client goals through appropriate financial management. The focus is always on the goals. A Financial Plan would be useful to a family that has various goals and wants to know whether they will be able to achieve them within the framework of their past investments & ongoing surpluses that will be available, over the years. Cashflows over the years will have to be worked out and it needs to be found out if the goals can be achieved within the timeframes specified or not. Once that is established planning for the near term needs to be done. Any deficits on a monthly basis or special needs that may be there needs to be addressed and provisioning needs to be done for that purpose. As part of the plan, advice is also offered on the right asset allocation for them. A proper risk assessment is also done and the correct amount of life insurance that may be needed is arrived at. It is after all these that specific recommendations are made.

How much liquidity may be needed, in what instruments to invest in, are specified. This amount would depend on the dependencies, the loans and other outflows that are there, stability of cash inflows and other factors. All past insurances would have been looked into and appropriate recommendations on whether to keep them or continue, is offered. New insurances on life, accident , medical, home etc. are suggested, after taking into account the present insurance they have, including what they have from their employer. Past investments are also looked into and reallocations are suggested based on their specific requirements and goals. After allocating for liquidity, the balance amount available in the bank needs to be deployed. Similarly, the surpluses coming out on a monthly basis would need to be deployed . Suggestions for all this would be there in the plan. The cash inflows over the period – especially over the next 12 months are looked into and specific recommendations are made for such amount coming in, in the future. Implementation is done once the client understands and agrees on the plan. Implementation can be done by the planner or any other third party.

Now coming to wealth management, it is typically for those who have already accumulated a fair amount of wealth. Ofcourse, even these people would have goals and allocations need to be made to achieve the goals. The primary point of difference here is that the planning done to achieve goals may not be required as most goals would have been achieved and the focus would be more on growing the wealth. So the focus here is different. Plus, the wealth here can be substantial and that has to be managed efficiently. Also, there would be opportunities available before such a client which may not be suitable for a normal investor. Investments in a serviced apartment, a Private Equity fund or special structured products is a case in the point. Investments in properties abroad, special asset classes like Art, collectibles, fine wines etc. would again be useful for them.
The product portfolio that a wealth manager deals would be far more varied and complex as compared to a Financial planner. The team of experts that would have to be available to a wealth management outfit would be of a higher order. A very important factor for a wealth management client is taxation. Also important would be proper estate planning. A person having substantial wealth would want to leave behind a legacy and would want it distributed as per his wishes. Wills and trusts become very important for such clients and needs to be an integral part of wealth management.

To sum it up, there are points of overlap between the two. But they are for two different audiences and hence their focus differs. To some extent, they are like that tadpole and fish!

Published in Financial Chronicle on 7/7/2011

A strategy to get the right medical coverage

2011-06-26T23:24:00.000-07:00

It is almost a cliché to say that the medical costs have sky-rocketed in the past several years. But, this is entirely true. We all tend to spend a lot of time and grey cells on how to save money for the future to meet our various goals like children’s education, retirement, home purchase, vacation etc. We generally don’t give as much thought to medical exigencies.

Well, we should… for medical emergencies can truly be draining on the family finances. If one does not have a proper medical cover, expenses on medical emergencies can empty one’s savings and even put a person in debt. This means your entire future can get compromised by not having a proper medical cover, to take care of unexpected medical emergencies. Time for some thought and planning…

Many people assume that since there is no history of ill-health in the family, it will continue that way in future. Medical emergencies don’t announce themselves in advance, before striking. The only thing to do is to be prepared.

How do we start?

We need to start by assessing how much cover may be required in one’s situation. That depends on the age of the family members, family history of illnesses, one’s vulnerability should a medical emergency strike, how much & what kind of protection one is seeking & how much premium one is willing to pay for it. Clarity on this will help us proceed to the next step.

Most people are advised to take at least Rs.5 Lakhs for every adult member and Rs.3 Lakhs for every child. There may be seniors who may not be eligible for Rs.5 Lakhs in some policies and may have to make do with Rs.2-3 Lakhs, the policy may be offering. But, will this be enough?

The question is moot. There is no way to predict how much could be medical expenses, in case of an emergency. We just need to look at the probability of covering most events. A Rs.5 Lakh cover for an adult should cover 85-90% of medical situations. There is always a possibility of the medical expenses going beyond that. But that is the risk one needs to retain. And have a cash-backup as a contingency reserve. Else, more cover could be taken ( say Rs.7 Lakhs instead of Rs.5 Lakhs ). But this will entail an increased premium outgo. Here, one narrows the risk and is not eliminating it. Hence, the right approach would be risk transfer by taking an appropriate medical insurance cover and be prepared for spending, in case the expenses go above the cover opted for.

What kind of policies to consider and what are the things to look for?

We generally recommend individual medical cover. A normal medical insurance policy covers hospitalization & also an exhaustive list of daycare procedures. They also cover domiciliary hospitalization, pre & post hospitalization medical expenses, hospital daily cash ( in some cases ), Health checkup expense reimbursement in some cases. These days, the policies allow cashless settlement, which results in a hassle-free experience. Depending on the policy there can be other bells and whistles, like maternity expenses coverage, dental expenses, eyecare expenses etc., after a certain number of years. Before selecting a policy one needs to clearly understand the benefits that the policy offers. Premium alone cannot be the sole consideration for deciding on the policy. Claim settlement is of paramount importance. If you have got a thumbs up there and policy benefits are good, that company’s policy should be considered in your shortlist.

There are people who prefer floaters, which are comparatively cheaper. Benefits in a floater are similar – only that there is one umbrella cover for the entire family. A family can take for instance a Rs.8 Lakh floater and may save some money in a family of four. It also stands to reason that all members may not fall sick in the same year. But, they could too – like, if there is an outbreak of Chikangunya. That is a call one needs to take. For a smaller premium, one will have to assume higher risks.

What about Group medical cover?

For many people who are employed, they enjoy cover from their employers. This would be a group insurance cover that generally tends to be more beneficial than a general medical insurance policy. A group medical insurance policy covers preexisting illnesses from day one & maternity benefits on an immediate basis. Some of them may also allow coverage of parents, who may not otherwise be eligible for medical covers. Some of these policies also allow one to pay further premiums and increase the cover. The premium in a group medical insurance policy are also lower as compared to normal policies. There is one major downside to it – this cover ceases when one leaves employment. Today, when people are mobile and change jobs frequently, this can become a problem. When a person is in transition from one job to another, there may not be any cover at all. This is one of the pitfalls of depending on a group medical cover. Also, the next employer may or may not have a medical cover which is as comprehensive as the current one.

Hence, it is always a good idea to have a separate medical cover, even though there maybe a company cover. The separate medical cover one opts for, can be at an appropriately lower level.

What about other covers to consider ?

There are several covers like Critical illness cover, Hospital cash, Surgical covers, accident covers etc. These are all good to have – not must have. There is no end to the extent of the security net that you may want to have. But everything costs money. So, one needs to tread the fine line after taking into account appropriate cover required & the premium outgo.

Article by Suresh Sadagopan ; Article published on 26/6/2011

Putting together a proper MF portfolio

2011-06-20T02:14:00.000-07:00

What are the things to consider while choosing the schemes to invest in, while constructing a MF portfolio.

For a normal investor, investing their money has mostly been just a matter of doing what they have been doing in the past, like investing in FDs, NSCs, PPF etc. Lately, many people have been investing in Mutual Fund schemes too. Many among them have understood the significance of SIPs and are staunch devotees who pay their monthly obeisance.

But then, picking up the right set of schemes for investments is a challenge. Many do not see it that way. They just pick up what their friend / colleague has gone in for… what is being currently advertised. A favourite among investors is the NFO route. Even after a blizzard of articles specifically debunking the Rs.10 advantage in a NFO and highlighting the negatives of investing in a new scheme without a performance track record and possibly a new fund manager, investors continue to patronize NFOs.

So, how does one construct a proper MF portfolio? Let me offer some pointers.

Fund house filter – There are some fund houses which have built expertise in equity fund management/ debt fund management etc. Go to the experts and you would have won half the battle. AMCs which have a proven track record in equity asset management would be the fund houses to go to, for equity funds. Such fund houses would have the capacity to manage equity assets better than most, due to their better experienced fund managers, their processes & systems. There are some fund houses with niche capabilities like global investing or commodity stock investing etc. Again the same filter needs to be applied before zeroing in, on the fund house.

Fund manager filter - Fund managers play a major role in the scheme performance. Though there are systems and processes that tend to minimize the individualistic nature of fund management, fund managers skill is essential for funds to perform well. You will be able to see that in any category of schemes… you see a major difference in performance of schemes in the same category over different cycles of the market. One would see that some schemes have consistently outperformed the corresponding index and have beaten the category average, over various time frames. That’s fund manager’s skill working for you.

Performance filter - There are funds which have consistently performed over time and there are others which have delivered stellar performances, from time to time. While constructing a portfolio, one should look for consistency in performance rather than sudden bursts in the charts. The former is far more desirable and is achieved through proper selection processes, conviction, understanding and correct judgement at various points. Also, one should choose funds which have at least a 3 year performance history. This will help in validating if the fund is worthwhile to consider investing.

Portfolio construction - This should be a carefully thought about process. An investor needs to keep in mind their goals and their requirements for cashflows, over time. They should also consider their risk taking ability which would consequently dictate the kind of portfolio that one should construct. The portfolios for different people are hence going to be different. But broad principles apply.

The portfolio stability will need to be ensured through a mix of Large cap funds, Index funds & equity oriented balanced funds. Even a debt oriented fund with a dash of equity, like in the case of MIPs would be suitable here. This is to be the bedrock of the portfolio for most people. How much of large caps and how much of index funds, will depend on the amount of risk one is willing to take for the sake of returns.

Over this, there can be a satellite portfolio comprising of some aggressive funds like midcap & smallcap funds, value & opportunistic funds, all cap funds etc. The satellite portfolio can also comprise of thematic and sector funds. However, one needs to think through why a thematic / sectoral fund is required in their portfolio. A banking sector fund may be superfluous in a portfolio today as most schemes anyway have exposures to Finance sector anywhere between 12-20%. Some sectors like pharma, media and entertainment are extremely vast sectors and exposures in them is best achieved through a sectoral fund. Such sectors, if they make sense in the portfolio, can be invested in through sectoral funds. Again, the allocations towards various categories is best left to individual discretion and their expectations for the future.

In one’s portfolio, there could be a need for commodity, gold & global equity exposure too, especially if the portfolio is large and the need to diversify the portfolio is acute. In such a case, choosing appropriate schemes could add value to the portfolio. These should not be included in the portfolio as a fad.

When choosing schemes to invest one can broadly allocate about 10% in a scheme, going up to 15% in select cases. The fund house allocation should be not more than 20% among all the chosen schemes, going up to 30% in select cases. Allocation in equity schemes should be across time frames. SIP ensures that. Lumpsum investments also can be invested through Systematic Transfer, after investing in debt funds to tide over the timing risk.

That is not too hard to do, is that?

Article by Suresh Sadagopan ; Published in Business Standard on 19/6/2011

Is a tied agency model good for the investors of Mutual Funds?

2011-06-18T05:52:00.000-07:00

Recently there was a news item in the press that SEBI is contemplating introducing a tied-agency model for Mutual funds. Is this good news for investors?
For that, we need to understand the tied-agency concept. This model is currently at work in Insurance industry with their agency channel. In this model, an agent can sell the products of any one company only. Even if the agent finds that there are other insurance products from other companies that are far more suited, he would not recommend that… for he is not empanelled with other companies and cannot sell their products.

As it is evident, this model ensures that the agent is just a sales person of that one company and always needs to look at all client needs through the limited vision afforded by his company. This model is a fertile breeding ground for sub-optimal advice. The biggest loser in this model is the investor. The AMC may find this worthwhile. For them, the agency channel is an extended sales-force of the company, who are not on the payroll. The company needs to pay a commission only if they sell a product. It’s like having the cake and eating it too.

In mutual funds, currently a distributor can empanel with any number of Fund houses. This allows a distributor to pick and choose and create a portfolio of good funds, suitable for his client. Now, if this were to be straitjacketed into the tied-agency model, like it exists in Insurance, investors will start experiencing unwanted sales push with a skew to a particular company’s product only.
It is felt that it will help Mutual fund industry when they are reeling today under the impact of various regulations that have come up in the past 2-3 years. Mutual fund houses may get a temporary reprieve through this. But this is a retrograde step and will result in aggressive selling on part of distributors, of the company products they are aligned with. This will result in a flood of complaints, sooner than later, from the investors. If investors find that it is not working for them, they will stay away from the MF schemes, further adding to the pressure that MFs are facing.

Though I had mentioned earlier that it would be good for the fund houses, it would be positive for some & a big problem for most fund houses. If distributors are allowed to empanel only with one fund house, the top few fund houses only, will be able to empanel distributors. The smaller and unfancied fund houses will not be able to attract any distributors to their fold. These MFs will have to start wooing the distributors with various attractions like a sign-on bonus, regular salary like payments, special incentives, trips etc., which could entice a distributor to a particular AMC. It is obvious that the cost of doing business will go up for most AMCs.

National level distributors & Banks would find that they are hugely in demand due to their distribution muscle. They will be able to extract their pound of flesh with the AMC they are aligned to. In this, those fund houses which either have a bank in the group like ICICI & HDFC or have a strong distribution setup like Motilal Oswal, Birla Sunlife will find that they are able to come out of this relatively unscathed & even increase their stranglehold.

The outcome of all this is that it will increase the concentration of MF assets with a few fund houses only and concentrate power in the hands of a few MFs. The diversity in fund houses & schemes which are seen now, will be a thing of the past.

The smaller fund houses will have to sell more through the direct & internet platform. To sell through these channels, marketing efforts would be required. If such efforts are to be fronted by their own staff, it will tremendously add to their fixed cost. Distributor channel is a low-cost channel for MFs, which are only paid for the sales they put through. Hence their costs will go up if they have to migrate most of their sales to direct or internet platforms. Again, this is not great news for the AMCs, as their revenue stream is limited to the expense they are permitted to charge.

In a nutshell, if tied-agency model were to be introduced it will be a losing proposition for the investor & for most of the AMCs. The distributors will also find it difficult to suggest a bouquet of MF schemes which are suitable to the client and will find resistance from the client, who may want good schemes from across the board. This could mean that atleast some of the clients would want to desert the distributors and go the direct route, in the interest of a diversified portfolio. This will again drive distributors away from the system. This will be useful to a few big AMCs and big distributors only. So, why consider such a retrograde step at all? We have enough headaches in the industry as it is.

Article by Suresh Sadagopan ; Published on 17/6/2011 in DNA Money

Putting together an Equity MF Portfolio

2011-06-18T05:37:00.000-07:00

As a child I used to love fruit salad. The mix of fruits with custard and icecream used to enthrall me. I used to have it with a relish that bordered on a famished man seeing food! Would a fruit salad without all the fruits have been as good? I had never thought of it. But these days when people are calorie conscious and have advice from their doctor about which fruits to have and which ones to refrain having, I have started to look at the fruit salad in a new light.

I still have fruit salad… but now I’m more conscious about the various fruits that make up this heavenly concoction. Individually, they are nice. It’s when they are together, they taste sinfully delectable.

It is something like that when putting together an Equity MF portfolio. A portfolio which have only largecaps would be like having a salad made of just bananas – there would be no colour, variety or variation in taste. I don’t think it will be half as appealing.

A properly constructed portfolio needs to have exposure to varying extent to the different types of MF schemes. Just which type of schemes should be in the portfolio is something that can be decided based on individual requirements.
There are however broad pointers to constructing a portfolio. The first rule is to select the base or the bedrock schemes that will be building blocks of the portfolio. These will be the stabilisers of the portfolio. Large-cap, Index funds & Equity oriented balanced funds would come in as important components of the bedrock portfolio. Large cap funds by it’s very nature would have low beta and would represent the large, well-managed companies which are the market movers and mostly are also leaders in their category.

Index funds score as they represent the index – the fund mimics the correct proportion of the companies in the index. Index funds are hence passively managed funds. The only role a fund manager plays is to constantly ensure that the fund has the correct proportion of the underlying stocks of the index. Since the index itself is dynamically managed to represent those which have the largest market cap & are among the most liquid equities it is positive to have index funds in one’s portfolio. Also index funds have some very low expense ratios. Index ETFs are even better as their expenses are even lower.

Balanced funds ( equity oriented ) have atleast 65% in Equity schemes. The advantage in investing in these schemes is that since there is a certain equity debt allocation that a fund manager seeks to maintain, it can potentially take advantage of upsides and downsides. When the market is going up, the fund manager can move some portion of debt to equities and in the reverse swing, it could be exactly the opposite. This ensures that there is a bit of rebalancing which tends to happen in these kinds of funds.

The next level would comprise of aggressive / actively managed funds. Aggressive funds would choose from mid-cap & small cap space. These funds have the potential to deliver high returns though the risk inherent in such a fund is also higher. Their volatility tends to be higher as the underlying companies in which they invest in would be fast growing companies but they could also get affected to a greater extent due to any external impact like inflation, interest rates, commodity prices etc., more than a large cap company, which tends to be market leaders and have higher pricing power, may have better forward and backward integration leading to higher capacity to absorb external shocks. But in the longer term, they tend to perform well. Actively managed funds would be all-cap funds where the fund manager invests across market caps and themes and will take calls on which sectors to invest in, what kind of companies to invest in etc. This calls for a higher degree of skill on the part of the fund manager. Some of these funds have performed well and have managed to beat the index consistently over long periods.

For those who are bullish on specific sectors, sectoral funds are good options. For instance, investing in Pharma or FMCG would help in ensuring that there is stability in a volatile markets. Similarly, Media & entertainment & pharma are vast sectors, where one can get proper representation in these sectors only by investing in such sectoral funds. Thematic funds like Lifestyle & Infrastructure funds are tactical allocation calls, which depends on the portfolio one is trying to construct. Similarly, funds with exposure to equities abroad, commodity oriented, particular country theme etc. can have a place in one’s portfolio based on the diversification one is attempting to achieve in terms of geographies, underlying asset class, economy/ currency diversification.

MF schemes available now allow one to construct exactly the portfolio that is suitable to one’s situation. Like the fruit salad, it tastes good when they are put together in the right proportion.

Article by Suresh Sadagopan; Published in Moneycontrol.com on 17/6/2011

Coping with Volatility

2011-06-13T05:48:00.000-07:00

Life is never linear. There are times when elation is the dominant sentiment and at other times gloom reigns supreme. Investors get in when the markets are trending higher. There are lots of fence sitters when the markets are rising. It is when the markets have run up almost to the top that the stampede to get in, starts. But, that’s the wrong time. Again, when the markets have started sliding, investors want to sit out the slump. But they suddenly lose their nerve when markets go down the tube, on a continuous losing trend. At some point like that, a stampede starts. They just book their losses and exit out, costs be damned. They don’t look at the market at all, till there is a frenzy again. This is all too familiar right?

This is not inevitable. This will probably not happen if there is a clear time horizon and a goal for which investors are investing. Most investors are aware that the equity markets are volatile and that they tend to give returns over the long-term. If they have understood that, they would stay invested. In a situation like the present where the markets have drifted downwards and is now staying in a range, what is it that an investor can do. Let’s take a look.

1. The dumb thing to do would be to cash out equity assets at this point in time. As per the asset allocation principle, one would need to commit more money to equities, as their values would now have eroded and they would have a smaller share in the asset allocation pie. Hence, actually equity allocation needs to be bumped up. Though it may be a gut-wrenching decision to take at this point, it will prove to be a winner over time. Even if one is not doing that, one could at least wait out this slump.

2. Continue the SIPs that have been going on. We get calls to know if they should stop the SIPs at this point. On the contrary, all purchases done in this period through SIPs would help the investors get higher number of units, ultimately helping them when the markets turn again.

3. Running after Gold as it is giving exceedingly good returns now is also not advised. Gold is going up due to speculative activity. Gold ETFs worldwide are collecting huge corpuses and they are buying gold to be kept in their vaults. There is no productive use for this gold. It is just that there is a widespread expectation that Gold will trend higher, which it could. But this is speculative activity. Due to currency debasement & uncertainty in the world, Gold is a comfort investment. Keep it that way. Invest between 5-10% of your corpus in Gold and other precious metals through ETFs or other similar options, instead of direct physical investments. Physical investments have additional costs and is also subject to wealth tax. Silver had already shown what can happen when there is massive speculation – it dropped 30% in 3 days, when higher margins were imposed.

4. For those who invest in stocks, they could look at picking defensive themes like FMCG, Pharma etc. Profitability of companies are coming down. In such situations Largecap companies & others who have leadership positions in their industries, could be good bets. Such companies have better pricing power & ability to weather the storm. If investments are through MFs, schemes investing in the above mentioned areas, would be good bets.

5. For those who have a long time horizon of 3 - 5 years and beyond, Mid & small cap companies would be good picks, as their prices are beaten down and offer good valuations now. If the goals are longterm, these investments could be a good idea.

6. For Fixed income investors, FMPs are a good idea now. The underlying investments in FMPs viz. CPs and CDs are now offering over 10% returns. If a person is in Dividend option, they could get 8.6% or more returns post-tax. This is attractive and is well above what PPF offers. Best of all, this comes in an FMP with just over 1 year duration. There are Bank FDs, company FDs and bond offerings which are attractive too.

7. There is another excellent option available before retail investors. Since the interest rate cycle is more or less at the peak and is expected to taper off in about 6 months, there is potentially money to be made by investing in G-sec funds which will give very good returns when the markets turn. Even other funds holding corporate paper can similarly give good returns. One could invest in dynamically managed debt funds which a fund manager would manage and time the entry and exits of various investments, which is critical here.

8. For those wanting to put in a large sum of money in equity assets, they could break up the money and invest over time to take advantage of market fluctuations & spread their risks. In case of MF investments, investments can be done in debt funds and can be transferred to appropriate equity funds, over time.
Predicting the direction of the market is fraught with danger, which even experts are not able to do. Taking a longterm view and investing & taking advantage of the present situation, is the wise thing to do.

Article by Suresh Sadagopan ; Published in Business Standard on 12/6/2011

The spirit of the Hippocratic oath

2011-06-08T03:09:00.000-07:00

Truth & Integrity are words we hear a lot about… but tend to see it far less in practice… in every walk of life. Politicians talk a lot about it and almost have nothing to show for it. Their oath of allegiance when they assume office is hollow, as politics today is a game of private enrichment at public cost.

It is not just there. Integrity has been gaining value as there are too few practitioners. It is equally surprising that people have this conviction that integrity and truthfulness do not have a place in the present day world.
Integrity ofcourse does have a place in today’s world and those who are practicing it know it and are doing extremely well. There are many who practice the highest levels of integrity in their personal lives and in their corporate avatars.
Infosys, Wipro, Tatas, Godrej, TVS group are some of the well-known companies/ groups, which come to mind when we are on the subject of integrity. For some of them, it is their calling card. For Tatas, apart from their management acumen, they are sought after by any company looking for an India entry, due to their impeccable credentials.

Integrity can be an actual differentiator. In the finance field, which deals with people’s money, it is even more important. Finance field has received a severe battering in the past three years and the integrity of this industry is in tatters. To this day we have been receiving stories of deceit and wanton misleading of various participants.

Integrity is at the heart of building longstanding relationships. Integrity is difficult to maintain at all points… it is easier to bend the rules a bit, to suit one’s convenience. But that would bring down the moral stature a person has and their all-weather dependability. Trust is built over time. One wrong move and their integrity is compromised.

Trust is a word that is often used by many in business. It is used even more in the world of finance… for to allow another to handle your money and with it your future, requires quite a leap of faith. Hence, trust and integrity has even more salience in the financial space.

Come to think of it, this can be one’s calling card. It will be an effective one at that. Each one of us operating anyway require something to distinguish us from the rest. Why not integrity? Why not actually take the moral high ground and stay there, where the clients like us to be?

Think of this as a longterm strategy… An insurance agent might lose some potential income by foregoing on the opportunity to push a product with a juicy commissions – especially to a client who anyway does not know much about insurance. That is where integrity comes in. Integrity is what you do when no one is looking. What does the agent gain by doing the right thing? On an immediate basis - nothing. But the agent can always communicate to the clients, all options available before the client and educate the client why among the various options, he is suggesting a particular product. This willingness to spend time to engage and do the right thing, will certainly be appreciated and remembered. These are the agents who will go on to become the star agents of the branch, region, company… because, a happy client refers ten others.

It works. Not just in insurance. It will work everywhere. It is even more fundamental in the Financial Planning profession, where I come from. Integrity is the backbone of this profession. Financial Planners get to handle the complete client information, unlike any other, who may only get to see bits and pieces. Hence, integrity needs to be of the highest order here– not just beyond reproach. Trust is the currency here. And trust needs to be earned.

Earning trust is a relentless, dogmatic pursuit. Talking the truth all the time is immensely tough. But it needs to be done… because that is the highroad that one needs to take, if success of the highest order needs to be courted. Quite simply it is in our own self-interest – enlightened self-interest.

The doctors take the Hippocratic oath to always act in their patient’s interest. A similar oath is what we all require. Both professions have a fiduciary responsibility. Done right, Finance is as much a noble profession as medicine is – for one treats the body and other takes care of the other most important part – money.

We all need to think about it. Each of us have to attest to the highest standards of honesty, integrity & truthfulness. This is not some utopia that I’m talking about. It’s what regulators are trying to create… it is what we can create ourselves and reap the benefits too. And be counted as some of the best professionals there are.

The choice is ours.

Article by Suresh Sadagopan ; Published in The Economic Times on 8th June 2011

When does equity make sense in a financial plan…

2011-05-24T02:25:00.000-07:00

My daddy can run 5 kms with ease, bragged Kaushik to his friend Dhiren. Dhiren was not to be upended by such trivia and promptly slipped the information that his father did the full marathon. This is common among children like them, one would think. But then, it is quite common with adults as well.

Some have honed it into a fine art that their bragging is honey smooth and one may not even realize that they are slipping promotional material below the radar. It can be anything from their cars, to their prowess with the opposite sex, their connections, their ability to pick up winning stocks etc. And talking about this ability, we tend to hear a lot about this from our clients.

Milind has made so much money in stocks that he was able to buy a house with the profits, Gopal wistfully told the other day. Good for him. Most people don’t reveal their mistakes; they only talk about their successes.

Gopal, my client, hence wanted to invest in stocks, first and foremost. He was not getting why we are not suggesting him stock investments for him. He thought if he comes to a Financial Planner, we will use our midas touch to make him millions. We had a lot of work to do.

Financial Planning is a blueprint to achieve one’s goals in the optimum manner. The important thing here is to manage cashflows properly and ensure best choices for the client, after considering the investment horizon, liquidity needs, stage of life of the client, their goals itself etc. Some assume that the best choice is the one that gives the maximum returns. It is not. However, one can make the correct choice from among similar instruments which may all be suitable and ensure the best fit in their situation in terms of returns, liquidity, ease of management, flexibility etc.

This ofcourse did not convince Gopal… he agreed that all these are important, but… what about shares? See Milind – how he has turned around his fortunes. Why don’t you chumps understand, he seemed to say. We got the hint. We had to address this now that we knew the planning process will otherwise not move forward.

Firstly, investing in equity is a high-risk, high-return proposition. The risks are high Gopal… you need to realize that. A stock that is seemingly doing well, may languish for any number of reasons. And it may crash, like it happened in case of SBI after the 99% profit plunge in Q4 results. It did not help matters that the provisioning was probably a one-off thing. Gopal would have fallen off his chair as SBI nose-dived 8% on a single day. The first thing then to appreciate is that the stock market is not some gravy train to Richie-rich land. There are as many pitfalls as there are opportunities.

Secondly, investing in stable, market leading companies is no guarantee of good returns either. Ask anyone who has invested in Reliance Industries and they would probably change the topic in a hurry and exit without as much as a good bye… for Reliance industries has given -13% returns, in the past one year. Does that mean Reliance is not good? Hardly. It is the biggest private sector company, has the largest market capitalization and is a company with huge potential. But when investing, mistakes do happen.

Now come to promising sectors. Microfinance was one such sector till about mid 2010. The industry went through a turmoil due to regulations on Andhra Pradesh and now Malegam committee recommendations. SKS Microfinance was a torch bearer. It had it’s own internal issues to exorcise as well. The upshot – the price is down over 70%.
Investors treat investing through IPOs to be a gilt-edged strategy. DLF & Reliance Power are prominent examples. One research showed over two thirds of the companies are quoting below their IPO price.

Ok genius, Gopal was saying… tell me how Milind made money? I told Gopal that Milind’s methods are a closed book to me. However, Gopal, in Financial Planning we look at equities only after covering the flanks.

The bedrock of the investments needs to be good debt instruments – like PPF, PF, FDs, Bonds and the like. That stabilizes the ship. The growth instruments preferred would be Mutual Funds. Gopal winced, as I never tire of mentioning this. The same thing allover again, his face said. I continued undaunted. Mutual funds offer unparalleled diversification as even a small sum of money invested in a fund would offer the same diversification as the entire portfolio. It is managed professionally, gives decent returns overtime & ensures liquidity – all this at a lower risk profile compared to Equity shares. The other cherished possession would be a home. As part of the Financial plan, that needs to be provided for too.

Now, when do you recommend Equities, Gopal wanted to know. I was actually coming to that. Equities are to be considered only after sufficient investments & security has been built through debt instruments, Mutual Funds and appropriate insurance. Then, Equity selection should be done to take exposure to specific companies that have good longterm potential. There is no point in buying index stocks again as they would anyway be represented to some extent in Mutual Fund schemes, in which one might have invested. Selecting promising sectors and investing in hand-picked companies hold promise. But in all these cases, one needs to give the investments time to bear fruit. Milind would have certainly given his investments time to bear fruit, I concluded. Gopal remained unimpressed. I was done. So, I suggested that we pop around to his favourite restaurant and have some pav-bhaji. Gopal brightened up immediately, he being a foodie. We walked with a song on our lips. Mine was – All is Well!

Article by Suresh Sadagopan ; Published in DNA Money on 24/5/2011

Buying a property

2011-05-23T06:11:00.000-07:00

Seema could not contain herself after a look around the property and the amenities. She particularly liked the layout of the home and the fact that it was overlooking a waterbody. According to Vastu, it is a good sign. She almost saw herself living in that home. Rakshit did not share her exuberance. He was calculating the overall price to be paid and the loan they would need to take, to buy this home.

Rakshit was as interested in buying a home as Seema. Only, that he was being pragmatic. The couple have been wanting to buy a home since they got married about a year ago. But the prices were way above what they could afford, due to which they postponed the decision. Now, again they were bitten by the bug and here they were…
Seema & Rakshit were both working. Rakshit was earning about Rs.35,000/-pm after deductions and Seema was getting about Rs.21,000/-pm, post deductions. They did not have any dependants. After initially looking around, they had given up. They were investing the money so that they could use it for the home, at a future point. They had accumulated about Rs.3.45 Lakhs now. Rakshit can get another Rs.2 Lakhs from his company at low interest rates. That’s all they have now. But, this home they have set their sights on, would cost them Rs.57 Lakhs. Now, that is way beyond what they could afford.

They were worried. Everyone around them is telling them that prices of properties will only go up in future, when it will be even more expensive and unaffordable. They were in a state of panic and despondency, when they came to me.

After understanding their situation, I wanted to know how long they might be in Mumbai. They were not sure. I knew that Rakshit was from Kanpur and Seema from Delhi. I was then intrigued as to why they wanted to buy a flat in Mumbai. I tried another tack. Will they be willing to shift to another city if they get a good opportunity, I wanted to know. They were clear, they would. Then, I wanted to know the logic of buying a home in Mumbai. They wanted to save tax, they said. Also, their logic was that the rent was going down the drain, but the rent plus some more investments would create an asset.

I then queried them if they are claiming the rents for deductions. They said, they were doing it. If they move into their home, the rental amounts would go and along with it the deductions. They also accepted that. The tax deduction on the EMI would be much higher, they felt, as they would pay a considerably higher amount ( compared to rent ) as EMI. I had to dash the cup from their lips… I informed them that they could claim only upto Rs.1.5 Lakhs of interest component, irrespective of what they are paying as interest, in case of their residential home. This surprised them, as they thought they are going to get full tax deductions.

Secondly, I also drew their attention to the fact that the EMI would be impossible to service with their current income. Even assuming that they did, if they want to move to another city, they will have to continue to pay the EMI and also the rent in the new city. I offered that the rent in the new city may be compensated by the rent they may get in the home they plan to acquire in Mumbai, subject to the property being ready to be rented out and their interest in renting it out. But, if they move to the new city and stay in a rented place, it beats the purpose of taking all the trouble of to acquire their own home.

By this time, they were really down. I knew I had punctured their most cherished dream. I resolved to apply the balm. I informed them that property may grow at a longterm rate of about 8% or so and they need not despair that they cannot buy it in future, provided that they invest their surpluses judiciously and build a corpus. A proper investment portfolio could yield higher than 8% returns and hence even if you want to invest in future in a home, they will have a corpus which would have taken care of the inflation in property rates. “I get the drift”, Rakshit said. “Guess, it is a sensible option to continue in this house and invest in a home later when we have dropped down anchor”, Rakshit added. I couldn’t have put it better. I just smiled.

Article by Suresh Sadagopan; Published in Moneycontrol.com on 7/2/2011

Lord the guide and counsel

2011-05-23T06:04:00.000-07:00

Raman was a silent participant in a discussion in the canteen, about savings taxes. One of them was lamenting that the pitiable Rs.1.5 Lakhs deduction for interest payment, was not even one third of what he was actually paying. Another was cribbing about the low thresholds for savings taxes under Sec 80C. It set him thinking.

When he went back to his seat, he started a bit of googling and reading on finance related subjects. Even when he reached home that evening, his thoughts were still dwelling on finances. He switched on a Finance Channel and was intently watching it. There was fevered discussion about the direction of the market. He had finished his dinner on his way back home itself… for his wife and kids had gone to his in-laws place, for two days.

He heard a muffled knock on his door. He went to the door and found Lord Krishna himself standing there. His brow knit with confusion… who could be fooling him at this time…? He wanted to know who he was. The Lord just told him that he had been thinking of paying him a visit all these days and chose this quiet day, when no-one was around. Raman though unconvinced, let him in. He still wanted to find who this person was, who was playing the fool. The Lord continued," I'm able to see lot of confusion on your face. Why do you worry so much about Finances? You are well provided for”. Now , Raman was stunned. How did he know what was going on… was he really the Lord?

"There are expectations from this budget. Whether it comes to pass, Pranabda will decide. But, let us see what will appeal to a common middle class person. Firstly, the amount of Rs.1 Lakh is seen to be too small. Making it Rs.2 Lakhs would give some relief to many people and at the same time ensure that people save. Secondly, the limit for claiming interest being paid towards a home loan, is now capped at Rs.1.5 Lakhs. That is too low as your friend Sandeep was pointing out today afternoon. With the property prices being what they are, it would be great idea to increase it to between Rs 2.5 Lakhs – Rs.3 Lakhs." Raman was clearly reeling. How does he know about what Sandeep said in the canteen. He looked intently to see if it was one of his colleagues, pulling a fast one on him. But, there was no one who looked like the person before him.

He excused himself and went to pick up a glass of water. When he was back, the hall was empty. He went into his bedroom, bathroom, the other bedroom… they were all empty. Then he went to the kitchen. There he was standing before the small temple, which housed the figurettes & pictures of Gods. How did he come here, he thought to himself. “This is in answer to your prayers that I have come. You have always prayed to me for wealth & prosperity. You have them too…", said the Lord mysteriously. Raman had a hundred questions by now, in his mind.

"Coming back to the subject of what Pranabda can do for the common man, he can give relief by elongating the tax slabs. The 30% tax slab could start from Rs15 Lakhs, instead of Rs 8 Lakhs. The 20% slab itself can come upto Rs.8 Lakhs. Income upto Rs.3 Lakhs can be exempt from Income Tax. Rs.3-8 Lakhs can be taxed at 10%. That would give much needed relief to citizens. Senior Citizens can be given relief upto Rs.5 Lakhs, as they would have paid taxes all their lives, as it is".

"The other area is regarding medical expenses. Sec 80D gives relief upto Rs.15,000 a year for premiums paid towards medical insurance policies. But many of them spend from their pocket on various medical related issues. There is another Rs.15,000/-pa for medical reimbursement which is not taxable. But, in many cases, there are ongoing requirements on medicines and tests. In such cases, it goes much beyond Rs.15,000/-pa. Also, ongoing medical expenses incurred on parents are not covered by medical insurance can also be substantial. Hence, this non-taxable medical reimbursement, should be available till Rs.50,000/-pa ( against bills ) and should cover the family and parent of self and spouse”, the Lord said.

By now, Raman was convinced that this is the Lord. "Longterm conrtibutions to pension funds should similarly be deductible separately ( apart from Sec 80C), to the extent of Rs.1 Lakh. Rs.20,000/-pa in Infrastructure bonds which they introduced in the Budget is a good idea. That could be continued with a limit of upto Rs.50,000/-pa. Conveyance charges that are non-taxable are very low at Rs.800/-pm. That can be increased to Rs.4,000/-pm", the Lord said. None of his colleagues knew so much about Finances. He knew he has met the Creator himself. "Are you saying that all these things will come to pass”, Raman wanted to know.

“These are some of the things the Government could do for it’s people. The Government you have elected exists for itself. It is a parasite. A parasite benefits without giving anything in return. When you all are paying so much tax, it stands to reason to get some benefits. I have just specified what areas are ripe for adjustments. What Pranabda is going to do, you would know by the end of the month”. The Lord went on to say that we get the governments we deserve and more of educated, well intentioned people should come into public service. Raman was hardly hearing it. He prostrated before the Lord. When he got up, the Lord was gone.

Raman was presently staring at the wall. He was disoriented. He had got up with a start and was sitting bolt upright on the sofa. He immediately started searching all the rooms for the Lord. Then it dawned on him that it was all a dream. .. a dream where the Lord himself had outlined what changes would be beneficial for the people. He had tears in his eyes. Even though it was a dream, it touched him. He will not be able to sleep now. He switched on the TV. Pranabda was on air, talking of various reforms to be carried out…

Article by Suresh Sadagopan; Published in Moneycontrol.com on 10/2/2011

Women and Finances

2011-05-23T05:52:00.000-07:00

Their classic aversion to finances is a byword. But they cannot afford to ignore their finances, in their own best interests.

I was recently called upon to address about women’s needs regarding finances. To set the ball rolling, the organizer started off with the important role a woman plays - as a mother, sister, wife & daughter and increasingly as an income earner.

Therefore, she concluded, it is very important for women to understand finances, given the multiple roles they juggle and the stakes they have. Fair point. But I felt this discussion was veering off from the most important fact that, everyone needs to understand finances, not just women alone – else, they would mess up their lives.

Even men play multiple roles as father, son, brother, husband. They also work for a living. It is pretty evident that they juggle with multiple hats too. They need to understand finances too. Hence, it is not a man or a woman thing. Testosterone or Estrogen does not decide whether a person has interest in finances. The need for awareness and ability to proficiently manage personal finance is needed by everyone.
Women can understand a financial product, as well as the next man. They could quite competently evaluate them and take informed decisions, if they choose to. It is not a question of competency at all. Women are everywhere today, including finance area. We have scores of them in high profile positions as CEOs of Banks, analysts, economists, fund managers etc., which are hardcore finance professions. We have a woman financial planner, in our firm. So women-and-finances-are-poles-apart argument, does not work.

The fact is that many of them are just not interested. They have switched off finances from their lives. And have given the control of that to their father, husband, whoever… Probably, that is what the organizer wanted to highlight and give a clarion call.

Confiding in their close ones, is fine; abjuring responsibility in that area or blanking out finances, is entirely another. In our Financial Planning engagements, we find that it’s mostly the menfolk who take active interest. We request for a joint meeting to make the lady of the house understand where they are and what problems they are facing and what we propose to do for them. Mostly, they don’t come. Even when women attend discussions to go through the plan, they are mere, passive observers, waiting to dash out of our office, at the earliest opportunity. Mobile phone and children present an ideal cover to slink out... and abundant opportunities are presented by the nifty gadget and the mischievous children. That saves them the trouble of stifling their 40th yawn and wiping the tear from the corner of the eyes, ever so often, with that teeny-weeny kerchief.

But, this attitude is self-defeating. We want them to understand the blue print we are creating, investments/ insurances they have, the calculations we do to arrive at certain conclusions, our recommendations for them… Financial Planning, I agree, is a bit dense.

A working knowledge of finances and a disposition to learn, helps. This will help in avoiding, say, plonking a huge sum in an insurance plan to save tax, because someone had approached all the ladies in the office and had committed to give the proof of investment, by the next morning. What the plan is all about or whether it is suitable at all, is not looked into. It happens to a lot of men too.

A poll conducted recently suggests that Indian citizens are confident and competent in handling personal finances and are near the top of the table. I don’t know how they went about their polls. But, if indeed the awareness levels can be considered very good, then I despair about the citizens of other countries, bringing up the rear. I would just say that their sample probably consisted of financially well- informed individuals and may not be representative of the entire population.

Knowledge is power. It is essential that one has a bit of financial awareness and knowledge, enough to understand and evaluate the offerings. This will enable them to take decisions that don’t backfire like the bofors gun. Last minute investments invariably go wrong. Starting off the block early, helps. You don’t have to like Finance. You have to have enough working knowledge here, to competently handle your affairs. Know to ask the right questions. Start reading the personal finance pages of magazines/ newspapers. Switch on the TV and absorb some of the discussions on Personal Finance.

You are working for money and what it can provide you with, right? Why then treat it like, what the cat brought home? Money is not a man-thing. It concerns us all. It makes the world go round!

Article by Suresh Sadagopan; Published in The Economic Times on 10/2/2011

Question traditional methods of investment

2011-05-23T05:49:00.000-07:00

Both property and equities work over the long term.

Intuitive thinking need not always be right. Counter-intuitive thinking can also be right… sometimes so very right that you wonder if that wasn’t the intuitive thing to do. Take Steve Jobs. Instead of launching mobile phone models that cater to every group, he launched one phone - the iPhone - for everyone. Apple is world No 3 in Smart phones today.

A lots of conventional thinking is flawed. But we continue thinking that way, since it is a “comfort zone” for us. Moreover, everyone around us, our family and peer group also endorses it. The same applies to the way we handle our personal finances too. We continue to labour under the many myths and misconceptions, which have become accepted mainline tenets today.

Often, when we face a financial shortage, we wish for higher paying jobs. Conventional thinking says that if one changes one’s job for a better paying one, financial issues should be sorted out. However most fail to realise, more often than not, it is the wrong handling of current finances that leads to financial shortages. Even if the new job assures better inflows, aspirational thinking will lead to spending more money for a better lifestyle. There will be always be new and better avenues for outflows as long as the the basic problem of handling money in a prudent manner is not addressed.

CLARITY ON PROPERTY

Another advice that elders in the family dispense to the young is - one should buy property now since property prices will always be rising. Best to buy it now than later, they say.

Long-term growth of property is between six and 10 per cent, depending on which city the property is located. Expectations have risen as people look at the returns on property in the past six years. Some yearssaw property prices rising by 20-30 per cent yearly. But that is not sustainable. In equity or equity mutual funds (MFs), too, the returns were in excess of 50 per cent in some years. But it cannot always grow like that. The long-term average will catch up.

So, it is a myth that property will become unaffordable in future. As long as you are investing your surpluses and earning over eight per cent yearly, you will be able to save adequately to meet any escalation in future. This way, one will be keeping the options open and at the same time, can buy a home at a location of choice, in the future.

Again, property investments are seen as long-term investments and equity-oriented investments are looked at as short-term investments. The fact is that both are good investment avenues. Which asset class to invest and in what mix depends on an individual’s personal requirements. Equities, over a period of time, have given very good long-term returns.

The Sensex has given a compounded return of 18 per cent annually in 31 years. There is no reason to think equity is not a good long-term instrument. In fact, there is no other investment instrument which can beat these returns. Property investments are favoured due to their higher emotional appeal and the fact that it is a tangible asset. You can walk into your home or see the land. Equity holdings today are not even physical paper, which you can hold; they are entries in your demat account. Hence, psychologically, equities do not hold the sway that property does. Also, due to the fact that equity shares can be bought and sold very easily, it does get bought and sold - sometimes several times within a day. That does not mean it is the rightthing to do.

There are long-term equity investors who have built fabled corpus for their retirement from fairly modest beginnings.

THE ARITHMETIC

The other well-rooted belief is that one should buy property to save taxes. Let us get this straight. Saving taxes is not an objective by itself. Getting good after-tax returns, meeting goals and having the cash flows to meet one’s requirements over time are the more important and relevant concerns. Yet, so many buy property to save taxes.

How much can one save? In the highest tax slab, the savings for a residential home on Rs 1.5 lakh of interest payment is Rs 46,350 per annum. Note that your interest outgo may be much higher, but your benefit will be restricted to this amount only. While saving this amount is fine, one takes on a long-term liability. Even rent is tax-deductible.

A rented house, though inconvenient in some ways, is not a liability if one wants to shift to another city. Many people still say they would prefer to pay an equated monthly instalment (EMI) and create an asset instead of paying a rent to someone else. The problem with this is that the EMI will be many times higher than the rent and will have to be sustained even if one moves out of that city.

We accept what we hear as gospel truth. It makes sense to validate that against the touchstone of your wisdom, before accepting and acting on it. Who knows, you may break some rules and come out smelling of roses, like Steve Jobs!

Article by Suresh Sadagopan ; Published in Business Standard on 13/2/2011

Black Money

2011-05-23T05:41:00.000-07:00

“Nothing seems to get done, even after paying money”, lamented a relative of mine and expressed absolute disgust at being harassed for getting a simple marriage certificate, for his daughter. The fact that he lives in US, did not help matters. He told me that he was able to get his daughter’s birth certificate in 5 minutes. “Citizens rights are well protected there and such harassment is unheard of”, he added nodding his head in indignation.

Now, that is not a welcome sign to any Indian wanting to return home. With India really shining, thousands want to come back. The intrepid among them, have done it too. But there are many more who dread the system. They know they can get suitable work in the country; they want to contribute to their motherland; they want to come back. And then they hear of the bribery scandals that have rocked the country and some of them also have the mortification of experiencing the sleaze firsthand. Then they decide against coming back. We can be cockish and say that it’s their loss. It’s a greater loss to us. Our globalizing economy and industries need people with international experience. NRIs are a perfect fit here. We are scaring them away with our stinking systems. The sooner we set it right, the better the country would be for it. It is only then we will be able to get the talent home.

Now, that is the perpetual problem, we citizens face, when we deal with government machinery. Bribes are asked and given, as a matter of course. It is so engrained from the lower most level. The entire system is corrupt. Politicians have honed it into a fine art. I hear there is a system where the chief minister of the state is supposed to send a certain amount of money (like Rs.1,000 Crores ) every month to the party boss. No wonder that the targets that our politicians gun for are not developmental targets, but the ones that generate the sleaze capital. For that, they depend on all the arms of the government machinery to do the job for them. There is an elaborate machinery they have to intimidate and subordinate the citizens and businesses. They have various ministries which can change rules for or against businesses, they have various arms like excise, sales, income tax departments to do their calling and intimidate them. Those who remain foolish can expect visits from factory inspectors, pollution control / health inspectors, a visit from the representative of labour department etc. CBI has become a tool in the hands of politicians. Judiciary has also lost it’s above-board character and there have been instances where even judges were embroiled in corruption and bribery scandals. Politicians control all levers to extract money.

Welcome to India – the land of Black money.

Talking of black money evokes yawns here. It is an open secret that the tentacles of corruption has reached, right till the top. This is not freely reported, that’s all. The scandals getting reported these days seldom is less than tens of thousands of crores. We now have 2G scam of hitherto unheard of magnitude – Rs.1.76 Lakh Crores! The politicians & bureaucrats have created a crony capitalism system that is now well entrenched.

Education : Illgotten money is siphoned off into land & other property deals. Education institutions have been built by politicians with their slush money and a veneer of legitimacy is sought to be introduced in their wake. They are attracted to this as they can get huge amounts of land allotted to them in the garb of constructing an educational institution and more black money can be utilized in constructing the buildings and other facilities. They also get donations from charitable trust ( there was a controversy regarding Siddhivinayak trust allocating money to trust run by some politicians, years ago ), where they control the levers of power. This is another abuse of power. Once the buildings are up, they start off another money minting exercise. These institutions charge huge fees and offer a large number of seats in the management quota, where a suitably high “donation” is taken before admitting the student - ofcourse in cash. So, this is another black money generating machine. We have hundreds of such institutions across the country, which are ripping the people and producing students of dubious quality, who may not make the cut with the industry.

Corruption and Black money brings in huge problems for the whole country. Inflation is fanned by Black money.

Inflation : This is problem no.1 of black money. The parallel economy is estimated to be between 40-50% of the real economy. The slush economy is then Rs.23 Lakh crores to Rs.29 Lakh crores! That does not include the money stashed away at destinations abroad which is thought to be well beyond US$ 1 trillion ( for perspective, our GDP is US$1.3 trillion ). Every passing year, more money gets added to this hoard.

Inflation is a consequence of this. Inflation occurs if there is too much money chasing goods. Prices go up across the board in this case, unlike in the case of demand / supply mismatch where the price of a particular commodity/ item alone, will go up. For instance, if there is a poor crop of sugarcane, only sugar prices will move up. Unaccounted money however, pushes up prices across all categories. The only categories that don’t get affected are the hyper competitive categories like TVs and other white goods.

This affects everyone. It has affected the aam aadmi the most, in whose defence they keep mouthing platitudes. Prices of basic food articles have shot through the roof. In some vegetables, the prices have moved up by upto 200% in the last 2 years. And the prices have plateaued at much higher level compared to the levels earlier. Aam Aadmi is the worst affected as most of his budget anyway is spent on food and since this has shot up, he is unable to allocate money to anything else.

Real Estate : Black Money affects people in different other ways too. Land prices and property prices have gone through the roof. Politicians have invested in a huge way in real estate. It is said that hundreds and thousands of acres of land have been bought by the politicians in every locality across the country, from the slush money they generate. The reason why it goes into real estate is that huge amount of cash can be ploughed into these transactions. Part of the reason why the land and property prices have shot up is black money and the inflationary pressure it is exerting on the prices of land and other property.

This affects the normal citizen, who finds the going really tough, in view of the astronomical rates being quoted for real estate. The middle class citizens finds that they need to go far out to buy anything within their budgets. So, they need to take huge loans which they need to pay all through their working lifetime. They have to pay huge amounts of money as an upfront payment too, which means that they will have to cash out a lion’s share of their savings for that. In many cases, they are asked for substantial sums as cash – ie. Black money.

Now comes the funniest part… the buyer draws out huge sums of properly accounted money and hands over huge sums of cash to the seller. The irony here is stark. We are forcing our citizens to convert their proper, accounted money to black money! Without that, transactions don’t happen, because the seller wants cash to pay for another property, where they demand cash payments. Hence, the more the property transactions in the country, the more accounted money is getting converted to cash! So, all of us are contributing towards expanding the black economy, though we may be unwilling participants. The system is now so well entrenched that this is an established practice.

The irony does not end there. He is exposing himself to inquiry from the taxman at any future point as to why he withdrew lakhs of rupees in that period and what was the end use. With terrorism threats looming large, huge cash withdrawals are monitored. So, a law abiding citizen can be exposed to inconvenient questioning, which he will not be able to handle… he cannot reveal that he drew cash to pay the black component, nor can he think of a way which could absorb lakhs of rupees, where he has spent on. In effect, it is choice between a rock and a hard place. By this one transaction, the law abiding citizen has placed himself open to inquiry at any point in future. When questions come up and heat is turned on, it becomes fertile ground for further corruption. He will have to pay further cash to extricate himself from the mess he created for himself by paying – cash!!!

Now look at the other part of the transaction. If a seller has received a huge amount of cash, he cannot deploy the cash anywhere. He just has to keep it with himself, at huge risk and without earning any interest… till he identifies another property. That may take six months or a year. Till that time, the money will just lie as cash, which goes against all canons of proper money management.

Gold : The other area where black money gets parked is in Gold. Now, Gold has always had a lure with our citizens. That is also a good place to park the cash. Many buy jewellery, which means it is partially an item of consumption and partly an investment. Even if bought as gold coins or bars, one still has to pay a 5 – 15% premium on the raw gold prices. But purely from an investment perspective, this will be a poor way of deploying money. The best way to invest in Gold is through Gold Exchange Traded Fund (ETFs ), where one can get the returns offered by Gold without the attendant costs, problems of purity etc. But Gold ETF cannot be bought with black money as that is to be bought in a stock exchange and for that PAN and other details are necessary. So someone with black money will invest in physical gold only.

When investing black money, one is not really looking at maximizing returns; it is more to keep the money, without getting caught. Again, partly due to this and due to the volatile global situation, Gold has become a preferred investment even for governments. This has pushed up prices for everyone.

Other asset classes : Since, in most other investments giving a PAN is mandatory, black money does not feature in Equity , Equity MFs, FDs, Bonds etc. To that extent, these sectors are clear of Black Money. But money does get into the stock market, through money coming from abroad.

Article by Suresh Sadagopan ; Published in Money Mantra on Feb 2011

Strategic & tactical considerations in financial planning

2011-05-23T05:37:00.000-07:00

Financial Planners are misunderstood to be investment consultants, by many… not their mistake either – for many of them just call themselves Financial Planners, when all they do is offer investment advice. A proper financial plan would be a blueprint to achieve goals in one’s life, after a thorough assessment of one’s current financial position and future cash-flows. Analysing the income/ expenses, past investments, insurance, drawing up cash-flows etc., are a part of financial planning. While arriving at the optimum amount to invest and in which options, there are several strategic & tactical considerations before Financial Planners.

Asset allocation strategy – There are rules of thumb that are used to arrive at the appropriate asset allocation. That may not turn out right always, though it may be broadly right. A better alternative would be to come to an asset allocation that is suitable to the client concerned. Even, if the age and the station in life are the same, asset allocation being recommended can be significantly different based on the goals and when they are coming up, risk bearing capacity, years to retirement and other parameters.

Once the asset allocation is done broadly, we need to get into the allocations in each class. For instance, if Mutual Fund schemes & Equity has been recommended, it needs to be decided as to how much will be allocated to equity directly and how much through MF schemes. Equity shares have to be chosen so that they do not duplicate the holdings, done through Mutual Funds. The direct equity holdings should be in specific companies in which deep exposures are recommended. In others, exposures can be had based on their future potential. These may be small cap companies which are in promising industries and have the potential to become a multi-baggers, overtime.
As regards Mutual Funds, the allocation to Large, mid & small cap, sectoral, balanced, thematic funds etc. needs to be considered and fixed. After this is done, the candidates from each of these classifications can be chosen based on their long-term track record, their performance over the up and down cycles of the market, the portfolio churn , expense ratio, fund management style, fund manager credentials etc. Similarly, debt products also needs to be chosen based on the tenure, liquidity considerations, tax implications, net returns, risk profile of the product etc.

Liquidity management – This again is a very important aspect, which a financial planner would be concerned about. Generally, three months expenses are kept aside as a liquidity margin. Higher liquidity margin is suggested in case of irregular incomes. The expenses will certainly include any loan EMIs they are paying. It needs to be decided now as to where to keep this liquidity margin amount. Part of it will be in the Bank Account. How much we keep there, depends on whether there is a loan or otherwise – a higher amount is kept there if there is an EMI as we would not want any cheques to be dishonoured due to insufficient balance. Another option would be a sweep-in FD in the same bank, which would automatically be liquidated and come into the SB account, when a cheque is presented.

In other cases, we may also maintain a portion of the liquidity in Money manager funds. These funds give a higher return as compared to SB accounts. They are more tax efficient too if invested in dividend option. The other alternative is to set up an overdraft account, wherever possible. In this case, one could borrow to the extent of overdraft sanctioned and need to pay interest only for the period, for which the money is being borrowed.

Contingency Funds – Contingency funds may be required to be kept to tide over unknown situations. It may be required, for instance, if there were an elderly person who may require medical attention. Especially, if this person does not have medical cover, it becomes even more essential to have a contingency fund. In other cases, it is simply kept aside to tide over unknown situations – like medical requirements, unknown expenses which could pop up suddenly or other imponderables.

The place to keep aside contingency funds is in Fixed deposits of banks, Medium term debt funds or Hybrid Funds. A portion can also be in large cap MF schemes & balanced funds. A portion can also be in Flexi-deposits with banks. The prime consideration here is liquidity and the ability to access the funds at short notice.

For that reason, we would not suggest FMPs, NSCs etc., which are not really liquid.
Optimising longterm returns – When allocating funds, one of the considerations is to invest in instruments that give good post-tax returns. From that perspective, one needs to choose options which offer complete tax relief like equity shares or equity oriented MF schemes & PPF or choose other options where tax incidence is low. The long-term capital gains ( after 12 months ) in debt mutual funds is 10% without indexation or 20% with indexation. In case the investment is for a duration below 12 months, dividend option is beneficial as the dividend distribution tax is 14.16%. This is where these will score over the traditionally favoured investment destinations like FDs, Bonds, NSC etc.

Also, while putting money in insurance-based products, one needs to pay attention to taxation aspects. While it is true that while maturity proceeds of most insurance products in general are tax free, it is applicable for pension products. Only upto one-third of the corpus accumulated can be taken out tax free; the rest is taxable. Also, the annuities are taxable as income. Hence, care needs to be taken about which kinds of products one invests in.

It would be evident from the aforementioned points that one should take a 360 view while choosing between the various options, while deciding on the strategic and tactical options regarding one’s finances.

Article by Suresh Sadagopan; Published in Business Standard on 20/2/2011

Investing in FMPs

2011-05-23T05:35:00.000-07:00

Inflation is a big challenge for many people these days… more so for senior citizens. They are dependant on the income from their investments, to take care of their expenses. In the retirement phase most of them keep a bulk of their investments in safe debt instruments, to ensure that there is no erosion of capital. That means most of their investments would be in FD, Bonds, NSC, KVP, Post office MIS etc. But keeping the investments in debt instruments have their downside as well.

The returns from debt instruments are fully taxable ( except in case of PPF/PF). Hence, the net returns are not that attractive, even if the returns seem to be attractive on the face of it. Secondly the post tax returns may not be able to beat the inflation and will result in degrowth of capital for the investor. This poses a serious problem for someone who has a limited corpus and due to inflation, it keeps growing smaller and smaller.

That is where, Fixed Maturity Plans (FMP) will score. FMPs are debt instruments coming from Mutual Funds. FMPs invest in Commercial Paper, Certificate of Deposits, Debentures, Bonds, Securitised debt, Money Market instruments etc. So, an FMP is also a 100% debt instrument. What about the returns in an FMP? There is no guarantee of a fixed return in an FMP, unlike in the case of FDs/ bonds. This is somewhat unnerving for some investors. There is more…

As per SEBI regulations, the portfolio and the indicative returns of the FMP cannot be disclosed by the Mutual Fund house. This has ostensibly been done so that they do not show one portfolio and invest in a different portfolio. Also, the ban on disclosing indicative returns has come in place as this return can vary with the portfolio that is ultimately chosen for that FMP. This was done in the interest of the investor.

In the absence of this information, it became difficult for a person to decide whether a particular FMP is a good candidate to invest. So now, one has to do a bit more guesswork on the portfolio and can also access FMPs that have come in the recent past. They will give a rough indication of what kind of portfolio a new FMP may have. Once this is known, a rough calculation of what could be the expected returns of the FMP can be done.

If you notice the FMPs which have come in the recent past and have noticed their portfolios, you would have noticed that their composition consisted of Bank CDs. This seems to be a trend these days. Bank CD rates are at a median of 9.6%, for about a year tenure. You could safely assume that the return will be more or less that, as the portfolio is held to maturity and is not subject to interest rate risk. Then there would be expenses, which could be about 0.3-0.4%, on an average. Reducing the expenses, the gross return comes to 9.3% - 9.4%. There are Bank FDs too, which offer these gross returns. What turns the tables in favour of FMPs is their tax treatment.

Tax treatment - A debt MF scheme, which includes an FMP, is eligible for long-term capital gains treatment after 365 days of investment. Longterm capital gains is calculated at 10% without indexation or 20% with indexation, whichever is less. Indexation concept is used to compensate for the effect of inflation and to apply tax only on the real income earned and not on all the income. So, if an FMP starts in the current year and matures in the next financial year, it is eligible for single indexation. If however, it originates this year and terminates in the third financial year ( 2012-13 ), it will be eligible for double indexation benefit where the inflation adjustment can be for two years.
Let us calculate using an example.

Suppose Ram has invested Rs.10,000/- in a 370 day FMP, which commenced on 1/2/2011. It will mature on 6/2/2012. Let us assume the inflation in this year is 8% and the Cost Inflation Index ( CII ) reflects this, and the portfolio invested after expenses returns 9.4%. To calculate the longterm capital gains, we take 10% without indexation, which comes to 8.46%. Now with indexation, the invested amount is treated as 10,800/- and the amount you get back is 10,940/-. The gains made by you is Rs.140/-. The tax is 20% on this amount, which comes to Rs.28. Now, the final amount that you get as returns are Rs.10,940 – Rs.28 = Rs.10,912/-. The returns are hence 9.12%. See adjoining table.
As opposed to this, in case of FDs, Bonds, NSC etc., the amount earned is directly added to the income and tax is applied. Even if an FD yields the same 9.4%, the post tax returns would be just 6.5% instead of 9.12% in FMPs.

This situation may not be available in future. It would be a good idea to benefit from it now. It’s advantage to you with FMPs.

Article by Suresh Sadagopan; Published in Indian Express on 28/2/2011

The business of giving

2011-05-23T05:27:00.000-07:00

Charity and doing good is the new cause that our denizens have taken a fancy to. Almost every second or third person we do a plan for, wants to keep aside a decent pile for charity. That itself is a heart warming trend considering the number of organisations and worthy causes that need financial assistance. There are again many of them who take it one step further… they want to take up some social causes and work in the villages. Again, this is an admirable trend which requires to be applauded. For most people, it means going and teaching in a village school.

That could be the problem. Imagine a technocrat in top management going and teaching in villages… there is nothing wrong there. But, it is wasted talent. For instance, in the IT industry itself, there is a dearth of top notch talent as the industry has been growing at a breakneck pace. Now, would it not be a great idea for this technocrat to be part of this ecosystem… train, mentor and coach other people? Will it not be more useful to the economy and the country if he is able to pass on the essence of his learnings and experience to others in the industry? That will certainly preserve the knowledge, skills & talent that he has gleaned from years of work experience in the industry. Also, a person like this can be a big enabler for any organization due to the range of contacts and relationships, he would have certainly developed, over time. Now, casting all that aside and going and teaching in a village school, will be a criminal waste of talent.

If the idea is to do good for the society and the country, a person need not move out of the industry. Almost in every industry, there is a crying need for talent. Rather, he should turn an enabler, a catalyst for the industry and a teacher, coach and mentor for people from the industry. Colleges have outdated curriculum, so much so that, many times they are significantly divorced from what the industry wants. The quality of the teaching faculty in colleges, for the most part, leaves much to be desired. The reasons for that, is all too well known. Given this fact, it would be a great idea to join our education system, not at the primary level, but at a much higher level, where the contributions would be relevant and meaningful.

Plus, it is not a piece of cake to teach young children too. It requires quite different skills and someone even with years of corporate experience, need not necessarily possess them. From a pure efficiency perspective, it may make more sense to use an undergraduate to teach the basics. With some training, they can do a competent job. If they are from the villages itself or from nearby areas, they will know the language, be able to gel well and would be effective. Since they are from the area, there is no question of getting used to the place. They can be hired for modest sums and can be expected to stick around for the long-term.

It makes sense to support these teachers, who would be happy to get the job. It can simply be achieved through donations given to NGOs, who are working in such areas. This is the way to ensure social transformation in the hinterland. In the meanwhile, these do-gooders can be useful part of their ecosystems and can contribute to the industry that nourished them. This is as much a worthy cause as the other, they are passionate about. They will also earn well, which can be used to support several such teachers and students. This is a win-win deal.

Though this sounds logical, people seem to be marching to a different drumbeat. Many seem to think that they will derive satisfaction, only if they are in ground zero. As we have seen, this may not be the most effective way to engineer social transformation. If their purpose is clear, then they would get this. Probably people need to clarify what they mean by working for social causes. Instead of being the lone lamp, one could ensure that there are several lamps to light other lamps. That would bring about a social transformation. As planners, we would be more than happy to allocate for this goal too, along with their other cherished goals. For us too it will give us a lot of satisfaction, to see this goal achieved.

Article by Suresh Sadagopan; Published in The Economic Times on 4/3/2011

A little diligence can make your investments tax efficient

2011-05-23T05:24:00.000-07:00

There is an often heard line from our investors – ‘Please suggest me an investment that gives high returns and is low on risk’. Though there is so much coverage in the media that risk and return go hand in hand, this requirement has not gone away. It’s as elusive as experiencing snow fall in peak summer. The other aspect, which investors should be focusing on, but are neglecting, is the taxation and tax efficient investments.

Everyone wants to save on tax, under Sec 80C. But, that enthusiasm does not carry forward to finding out which could be the best investment vehicles for them. They talk of NSC, 5 year plus FD in Banks, PPF , ELSS Mutual Funds & Insurance, in the same breath. But, these are different investment vehicles in many ways.

Though NSC, PPF and bank FDs are all 100% debt instruments, their tenures and returns vary – especially their returns. The returns in Bank FD would be on similar lines like NSC. The tenures are also different – NSC has a 6 year tenure, FDs can have 5 years or more, PPF has a 15 year tenure. NSC gives 8% returns , which is fully taxable. The post tax returns are just 5.53% for a person at the highest tax slab. FDs return more or less the same post-tax returns. The returns in PPF is however, much higher at 8% post tax. If we look at other instruments like ELSS Funds from MFs, they are completely tax free after their lock in period of three years. The returns are variable ofcourse… but long-term returns in equity oriented assets are expected to be in double digits. Insurance is again a different ball game. Here, the returns are tax free at maturity. The returns depend on whether it is equity or debt investment that the insurance plan has invested in.

As part of Financial Planning for our clients, apart from tax savings in the year of investment ( Sec 80C), we look at tax efficiency and the returns after tax, over time. Apart from that, we look at the fit of the product in their portfolio. For that, we look at post tax returns, the asset class to which it belongs, risk inherent in the considered investment, tenure & liquidity before investing.
A product that has emerged as a good investment option to receive good post-tax returns is a Fixed Maturity Plan ( FMP ). One year Commercial Paper and Certificate of Deposits, into which most FMPs of that duration are investing, are giving returns of about 9.2-9.3% returns now. FMPs are eligible for indexation after one year at 20%. Accordingly, most FMPs are marginally over one year duration. The post-tax yield assuming an inflation factor of 7% is hence about 8.8%. This is an excellent return not available through most other options, in a pure debt product. While considering debt investments, these aspects need to be considered before putting together a portfolio.

Again, as a Financial Planner, tax efficiency needs to be considered while making provisions for liquidity too. Liquidity Margin that is maintained is typically 3 month’s expenses. This includes all loan repayments too. While providing for liquidity, it is a good idea to give a thought to how much to keep in the bank account and how much elsewhere. In a savings account, the money will earn a return of just 3.5%. However, if it were committed to a Money Manager Fund, it could earn 4.5-6% returns. Money Manager Funds should be invested in Dividend mode. Dividend Distribution tax applies every time they declare and pay a dividend. But this is at 14.16%. The interest earned in a savings account is lower and will be subjected to the tax applicable, as per one’s slab rates. Hence, investing in a Money Manager Fund is better in terms of returns and better in terms of tax treatment. If clients are more comfortable with keeping money in the bank, we suggest investing in sweep-in deposits, which earn more than a Savings Bank account (but then, the tax to be paid is as per the income tax slab ).

There are other aspects where tax efficiencies can be brought in. Many people are interested in buying Gold, due to the dream run in the metal in the last 3-4 years. Again, investing in physical gold has lots of negatives – like one has to pay a premium ( 5-15% ) for buying physical gold, even if it in the form of coins. One would need a locker, purity of gold can be an issue and one may not get the right price, when one goes to sell. Also, in physical gold it comes under Long-term Capital Gains regime, only after three years. Also, it is subject to wealth tax. As opposed to that, a Gold ETF, is very much like investing in Gold. One will not hold Gold in the physical form. Hence, the question of purity, storage, theft risk etc. are taken care of. Also, since it is in the form of MF units, it is eligible for Long-term Capital Gains treatment, after one year itself. Also, there is no wealth tax on Gold ETF units. Even if there is an end use for physical gold at a future point, the ETFs can always be converted to cash and physical Gold can be bought.
Taking a joint home loan ( where applicable ) allows the couple to individually claim upto Rs.1.5 Lakhs each of interest paid, for deduction from Salary Income. These and other efficiencies are integral to a financial planning process. Tax cannot be avoided, but it can be reduced by proper planning.

Article by Suresh Sadagopan ; Published in The Financial Chronicle on 23/2/2011

FMPs as good investment options...

2011-05-23T05:10:00.000-07:00

Investing in Debt instruments ( which have no exposure to Equity or Equity oriented assets ) has got very interesting now. Debt instruments like Bank FDs are giving 9.25% – 10% returns for different tenures. Also, for a senior citizen, they have additional incentives of upto 0.5%.

So this is a fantastic investment option for those who do not come under the tax net as the entire amount earned as interest ( say 9.5% ), would be their returns. This is even better for a senior citizen ( who does not come under the tax net ), as their return would potentially be higher by 0.25% - 0.5%. A 10% interest is a decent return on instruments which have very low risks ( Bank deposits are covered by Deposit guarantee insurance of Rs.1 Lakh ).

But this does not work for people who need to pay taxes. Even if one earns 9.5% interest, the post-tax return for a normal citizen in the 30% slab, is just 6.56%. See adjoining table for returns for normal & senior citizens coming under various tax slabs. That is where Debt Mutual Fund schemes can help.

Understanding the taxation : Debt Mutual Funds are subject to capital gains. Any investment less than 12 months and returns from them, qualify as Short term Capital Gains ( STCG ).

STCG taxation is at one’s marginal tax slabs. However, if one has opted for the dividend option, the income coming after dividend is tax-free in the hands of the investor. Dividend Distribution Tax ( DDT ) comes to 13.84%, which is paid by the AMC. To that extent the returns are depressed. Since, it is tax-free after that, you end up paying only 13.84% as tax, albeit indirectly.

Hence, it should be evident that it is a better idea to opt for Dividend option for those in the 20 & 30% slabs and Growth option for those in the 10% slab.

Investments beyond 12 months attract Long term Captial Gains ( LTCG ). Here, the taxation is 10% without indexation or 20% with indexation, whichever is less.

Indexation concept is to enable a correction for the effect of inflation. If for instance, one has invested Rs.100 and has got 9% returns, the actual returns are not 9% as there is also an inflation ( say 7% ) that is eating into it. The actual returns are only 2%. This in effect, is the principle of indexation. For multiple years, multiple ( double, triple) indexation, can be claimed. The tax after indexation as mentioned earlier, is 20%. The post-tax returns worked out this way, comes out to be very beneficial and way above what one can earn in a similar return FD. See adjoining table. That is what makes FMPs so attractive, which is also a debt Mutual Fund scheme.

What are FMPs : There is a knight in shining armour now – in the shape of Fixed Maturity Plans or FMPs. These are 100% debt instruments which invest in Commercial Paper ( from corporates ), Certificate of Deposit ( from Banks ), Securitised debt, Bonds, Money market instruments etc. These are coming from different sources and have differing rates and risk profiles. Though most of these instruments have fixed interest rates, they are traded and hence there can be volatility. To take care of this, FMPs are now mandated to invest in instruments which mature on or before the maturity of the FMP itself. This takes care of the interest rate risk.

Also, to play safe and compete effectively with FDs, many FMPs coming in today have exclusive Bank CD portfolio. For the purpose of understanding, it is sufficient to know that bank CDs are fixed income instruments issued by banks that give a specific return, much like an FD. Hence, a full CD portfolio is being put together these days, in many cases, to give that extra comfort to investors.

Portfolio & returns : There is one small problem. As mandated by SEBI, AMCs are not allowed to disclose either the portfolio or the indicative returns. This, they have done to ensure that an investor is not led down the garden path by showing one portfolio & the concomitant returns and actually investing in another, different portfolio. However, this is actually a serious problem today for the investor. They neither know the portfolio nor the returns. How are they supposed to invest? They would need to divine from the way the AMCs have been investing in their past FMPs and form an opinion of the portfolio construction principles generally used. They will then have to find out the returns they could expect from such a portfolio, based on publicly available information. They would also probably need to get information from others who are better informed than them ( Informal channels ) and get clarity before investing.

Tenure : FMPs have another attraction for investors. These are not very long duration products like NSC, KVP or PPF. FMPs can even be for a 3 months duration. It normally starts from 6 months and the more popular tenures are around 1 year to 15 months duration. There are also FMPs which are of 18 months to 3 years durations. Hence, these products are available for convenient terms. Hence, investors can invest based on their comfort, in an appropriate tenured product.

No wonder, FMPs have found favour with those who have understood their unique value proposition. Since these are close ended products, one can invest only when it comes up for subscription. FMPs may be available for subscription for a limited number of days only, which is one of the principal inconveniences. One can ofcourse invest in a liquid or money manager fund and wait for an appropriate FMP to transfer to, as an alternative. Most AMCs are offering this product. Hence, there is no dearth of choices.

Make merry when the season is on.

Article by Suresh Sadagopan ; Published in DNA Money on 17/3/2011

Investment options less than a year

2011-05-23T00:06:00.000-07:00

Matching investments to the needs & the timeframe is an important aspect of Financial planning. The following article in The Financial Chronicle dwells on the subject of appropriate investment options for a one year or less period.

http://www.mydigitalfc.com/personal-finance/plan-investment-horizon-desired-corpus-932

Child Education Planning

2011-05-22T23:51:00.000-07:00

Child's education planning is a major cause for concern these days. The avenues open today are many. This article in India Today talks about that. Link given below -

http://indiatoday.intoday.in/site/story/future-perfect/1/137160.html

Equity bonus for retirement corpus

2011-05-22T23:01:00.000-07:00

This will ensure that your kitty does not get exhausted before your lifetime.

The idea of retiring had terrified Tanmay. He was unnerved at the thought of no regular income, unsure if his retirement accumulation was good enough to see him through his golden years.

He consulted a financial planner, Seshadri. He, then, suggested a certain amount in mutual fund (MF) schemes and equities, even after retirement. His point: if the corpus is fully invested in debt-oriented instruments, the growth would be miniscule or negative after considering the inflation and taxes. Hence, there was always a chance of the corpus running out before one’s lifetime. Especially since, one cannot anticipate the inflation during retirement years and expenses.

EQUITY EDGE FOR RETIREMENT CORPUS
Corpus on retirement (Rs) 58 lakh
Tanmay’s post-retirement lifetime (years) 25
Wife's post-retirement lifetime (years) 30
Debt # Debt + Equity #
Return on retirement corpus (annual) (%) 8 9.4
Rrate of inflation (annual) (%) 7 7
Real rate of return (annual) (%) 0.93 2.24
Annual expenses after retirement (Rs) 2.75 lakh
Corpus will suffice for (years) 23.6 28.9
*Assumed return: debt=8%, equity=12% # Debt (100%) , Debt (65%) + Equity (35%)

However, Tanmay wasn’t sure of this. He had invested in equity in 1992-93 and burnt his fingers. But Seshadri simply pulled out his laptop and started punching the numbers. He showed Tanmay that if he invested only in debt instruments, his corpus would last just 23.5 years (before his estimated lifetime and well before his spouse’s lifetime).

Instead, if he allocated 35 per cent of his corpus to equity-oriented assets, the corpus would last for about 29 years. Since after his lifetime (25 years ), the expenses would reduce, the corpus would be sufficient to cover his wife’s expenses (assuming she outlives him by five years) as well. After seeing the calculations, Tanmay felt Seshadri’s argument was logical.

GROWTH

In the calculations, Seshadri had assumed a 12 per cent return on equity-oriented assets. Tanmay wanted to know how this could be so blithely assumed. After all, one can easily lose money investing in equity.

Not one to give up easily, Seshadri showed him how equity had given returns of almost 18 per cent on a compounded annualised basis, over 30 years. He explained that equities gave good returns over time, though they are volatile and can also give negative returns in the short-term. He asked Tanmay why he couldn’t invest a portion of his corpus in equity if the time period into retirement was in decades.

When Tanmay confronted Seshadri with the fact that he had lost money in 1992-93, Seshadri analysed the shares Tanmay had bought. They were all momentum stocks, bought on tips and hearsay. He infact told him that Tanmay would have made about four times the money he’d lost even if he had invested in fixed deposits. And about 7.5 to 8 times if the money had been invested in equity-oriented assets returning 12 per cent yearly.

FUNDS

He then proceeded to explain about MFs and their functioning. MFs invest in a good bouquet of companies, due to which there is good diversification. There is a fund manager to take care of the funds. A normal investor need not worry about stock picking and keep monitoring the portfolio. As he is not equipped to analyse companies, the sectors and their future prospects. Or one could simply invest in index funds and participate in the broad growth of the economy, without being exposed to a fund manager’s calls and also pay lower expenses.

He also advised Tanmay that that he should have sufficient medical cover. Tanmay had a medical insurance of Rs 2 lakh each for his wife and himself. Seshadri advised this cover be increased to Rs 5 lakh each. Also, he suggested that another Rs 5 lakh be set aside for incidental expenses on medical grounds. This seemed reasonable to Tanmay.

All this happened over two years ago. Tanmay has since then started trusting Seshadri’s view implicitly. He feels that he is doing extremely well financially because of Seshadri’s advice. Better late than never, he consoles himself now.

Article by - Suresh Sadagopan / Business Standard / Mumbai May 22, 2011, 0:48 IST

Simplify your investments and stay focussed to reap steady returns

2011-05-21T06:05:00.000-07:00

Mahatma Gandhiji was the epitome of simplicity. Over the years, he had eschewed almost everything and his very few possessions were a few personal items like his watch, pen, eye glasses etc. Most of us have not learnt our lesson from him and end up complicating our lives.

Simplicity is a sublime concept, which needs to be experienced. Less is more, most times. Simplicity works beautifully. Like they say, less the luggage, more the comfort... Simplicity is even more relevant, with one’s finances.

We all invest in our favourite schemes – be it FD or Equities… We also put in money in insurance products. But many of us have the insatiable urge to diversify. That prompts many of my clients to ask me “What’s new?” – meaning if there are any new products in which to invest.

The main point is that they need to invest for their goals, consistently, in instruments which match their risk profile and return requirements. Diversification also is required till a point… but that does not mean that you need to have every product that has ever been launched, in your portfolio.

Mostly, the basic products are good enough to take care of most requirements. One needs to make a clear assessment of one’s needs and select appropriate investment vehicles. Among debt products, FDs & Debt Mutual funds, along with PPF, are good enough to cover most requirements on the risk-return continuum. Some might be tempted to add bonds and debentures to it and I’ll still smile and go with it. But beyond a point, diversification loses it’s meaning.

For instance, for Retirement planning one may invest in FDs, PPF, Equity & Equity MFs. A long list of twenty different products may not be required. Unlike what is normally assumed, a long list of pension policies is not required to secure the golden years. By keeping it simple, even the administration would be easy. Easy does it.

Even within a category of products like Mutual Fund schemes, you need not have a finger in every category from large-cap to thematic, sectoral to hybrid. Rather, you should be choosy about what categories you invest in. Once the category is chosen, zero in on the schemes that best represent that category.

But what about the structured products, guaranteed return products, PMS products with exotic payouts and other amazing constructs. Mostly, they can be ignored without jeopardizing any goals… these exotic products are generally not that amazing to the investors, as they are made out to be. Since there is always an expectation from the investing public for something new, there are those who oblige – launching such new fangled products. The craving for something new is also the reason why IPOs, NFOs always get a good response.

That is true of insurance products too. The industry keeps churning out one product after another – when their most important mandate is providing a security net. This has been forgotten by the industry and given the short-shrift by the consumers too. Insurance companies hence keep talking of investment products and obliging customers beat a path to their door. When clients come to us, they come loaded with all manner of insurance products and very little of what insurance products are supposed to provide – Insurance ! Very few have term insurance. Just taking an appropriate term cover would be the simplest / low-cost option to secure. But the simplicity of this product leads many to disbelieve the product – how can such small premium cover me for so much – there has to be a catch somewhere, people think. At the other end, others see the premium as money down the drain little realizing that in any insurance product there is a mortality charge, which do not give returns.

The product brochures make interesting reading and could tempt you or even psyche you into putting money into various schemes. That is the job of a product brochure! Some of your friends may be excellent raconteurs and may end up setting you up for a product inadvertently. What works for one is not necessarily best for another. The product selection largely depends on one’s goals, situation, time horizon, risk bearing capacity etc. Keeping it simple, works... Good old common sense should be your friend, confidant and guide. Or pull out a currency note and see if Bapu can inspire you on this front? If nothing works, the likes of us are waiting to simplify things for you – at a price!

Article by Suresh Sadagopan ; Published in The Economic Times on 1/4/2011

Simple pointers to MF investing

2011-05-21T06:01:00.000-07:00

Mutual Fund investing is not very exciting. It is probably marginally better than investing in Post office schemes. It’s certainly no patch on direct stock market investments, where there is unbounded excitement – the rush of adrenalin and the frenzy one could experience when the stock markets soar…

Though stock markets are exciting places if you are looking for the thrills, Mutual Funds continues to be an excellent option, for normal investors. The most important criteria while investing - it should offer a reasonably good return commensurate with the risk. In Mutual funds, there is a fund manager, an expert who manages the investments, which is a positive… as most investors do not have the time or the expertise in the investment area.

While choosing Mutual fund schemes, there is a certain bit of diligence, which is required. Let’s look at them in turn.

Following the stars : Lots of investors follow the stars assigned to a scheme by various firms who rate the performance of the schemes. The rating criteria of different agencies would be different and the number of stars may be different for the same scheme, from different agencies. That would result in confusion. Also, a four or five star rated scheme may not be performing well now and may still retain the rating as the agency may have looked at the long-term performance primarily, for assigning the rating. So, if the short-term performance has taken a hit because the fund manager has changed or the scheme has started invested in non-performing sectors or has retained a lot in cash when the markets soar, that does not get factored in the rating. Investing in such a scheme may not be a great idea.

As an investor, it is hence better to do a bit of reading to find out if the scheme in question is indeed as good as the stars behind them. It is easy today to get all kinds of information on a scheme on the net, which will highlight other aspects that you would need to know before investing – like fund manager change, scheme merging with another scheme, company takeover or more mundane reasons like wrong timing, cash calls going wrong, investment theme being out of flavor etc. Look at the stars, but scan the cosmos before putting you money!

Timing the market : There is an urge among investors to time the market to a nicety! It happens in books – not in real life. Fund managers would give their right arm to get this ability! Even they do not get this right – several fund managers missed the rally that started in March 2009 and got on board much later in June/ july 2009. But still, some investors retain their cockiness – they assume they can time the market. Once, twice maybe. It’s just not possible on a consistent basis. It is far better to invest regularly on a monthly basis, through SIPs, which will help even out these fluctuations and infact help in taking advantage of the whip-saw movements. Big onetime investments can be done through Systematic Transfer to Equity funds after investing in an appropriate debt scheme. Spend time in the market instead of timing the market.

Despairing after investing : Many investors suffer from bouts of self-doubt after they have invested – especially if the market has corrected and their returns have come down or entered the negative territory. They wonder if they were much better off staying with the FD, like their bank manager keeps repeating. Maybe, the amount in SIPs could have been lower. Maybe, they should have invested in equity directly… The last bit is even more confounding as many people assume that the fund manager is goofing up big time and that is why they see poor returns and feel they could have done a better job!

The basic point is that MF investments are subject to market fluctuations, which certainly does not mean that they will not be able to deliver good returns. They will, over time. Sensex has delivered about 18% returns since inception, though there have been periods of poor to massive negative returns. After investing, one needs to give time. There is also no sense in panicking and withdrawing the money or switching to other schemes. Faith and patience are the watch words here.

Investing blindly : There are fads and sensational themes at different points. Some of these fads may actually be good and may even be worthy of investments. Some may just be a lot of hot air. Pursing all fads would only end in grief.

Also, many investors have the “strategy” of investing in all NFOs that come into the market as the NAV will be 10. NFOs start their life with a disadvantage in that they do not have a performance history and many times may be run by a brand new fund manager and may also follow a new theme. These in itself are significant negatives. But, investors chase NFOs, like cats after mice.

Friends and colleagues are credible source for investment information for investors. It does not matter that their friends and colleagues invested based on information from their other friends. In short, many times, investors seek short cuts to making an investment choice and end up with ones, wholly unsuited to them. Copy paste investments seldom work. There is no substitute to a bit of work before investing.

With a bit of spade work, one would end up choosing schemes that work well. It’s not difficult. It’s most certainly rewarding. It may not be as exciting as stock investing. But then, you could always bungee jump or do white water rafting for the adrenaline rush. Why put your money on the line?

Article by Suresh Sadagopan; Published in moneycontrol.com on 8/4/2011

Gold Funds - another good option

2011-05-21T05:49:00.000-07:00

Gold is seen as a hedge against inflation, an insurance when currencies get debased and as an investment asset class by itself, which has low correlation with other investment assets.

When gold is bought as ornaments, the purity is compromised. Buying gold in the form of biscuits and bars is not the most efficient way either as the prices are still higher by between 5-15% than the raw gold prices. However, people buy gold bars and biscuits for investment and gifting. Large amounts of money can be parked in gold.

But physical gold has to be stored and it has its pitfalls. Since it is precious, it has to be secured properly, like in a bank locker. Insurance may have to be taken, which adds to the cost. However, there are other ways of buying gold.
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Gold ETFs: Gold ETFs (exchange-traded funds) have become popular as it does away with many of the problems of physical gold. Gold ETFs are products from mutual fund houses and can be bought in units.

However, one enjoys the same investment appreciation like raw gold. One unit corresponds to one gram of gold (in one of the cases, 0.5 gram). Units can be held in whole numbers only and fractional units are not possible. The company that manages ETFs will buy gold and hold it. This ensures that there is a direct correlation between the price of gold and the gold ETF units.

Gold ETF units can be held in a demat account. Also, the buying and selling of units will have to be done on the stock exchange like BSE or NSE. This means a person should have a demat account and should have a broker or trading account to buy and sell ETFs. This can be a problem for some. The costs here are the expenses charged, which ranges between 1% and 1.25% currently. Additionally, the stock broker may charge 0.5% on both the buy-and-sell transaction.

Transactions can happen if there are trades on the exchange. Liquidity is a factor of demand and supply. This is referred to as the impact cost, which is the bid-ask spread. Higher the volume, higher the liquidity and lower the bid-ask spread. Benchmark gold ETFs have the lowest impact cost. They are the biggest gold ETFs in the industry with a corpus of about Rs1,500 crore, in an industry asset under management for gold ETFs of Rs3,500 + crore.

ETFs also enjoy benefits like long-term capital gains after 12 months of holding and exemption from wealth tax.

Gold funds: Now, mutual funds have launched gold funds, which invest in gold ETFs. This is not to be confused with funds investing in gold and other precious metal mining companies like DSP BR World Gold Fund. These gold funds are being launched now to give further convenience to investors. It has the following benefits:

This is especially useful for those who do not have a demat account, as the investment is in the form of normal MF units.

Liquidity is assured as the asset management companies are the counter party.

Monthly investment of a regular amount by electronic clearing system is possible to be set up, for whatever duration.

The investment can be as low as Rs100 in one case and Rs1,000 in case of another fund.

There is no brokerage to be paid and the charges are capped at Rs1.5% per annum.

The other benefits like long-term capital gains treatment after 12 months and no wealth tax for units held in gold funds are the same like gold ETFs.

In summary, gold funds are a useful addition to the basket of investment options. Since gold has shown good, long-term performance, investing in this on a regular basis would be a good choice. With the low ticket size and the ability to set up systematic investment planshere, this ensures disciplined, regular investment. A golden opportunity for investors really!

Author - Suresh Sadagopan ; Published in DNA Money on 13/4/2011

Saving instruments should be goal linked

2011-05-21T05:41:00.000-07:00

Doing repetitive things can get boring. So it seems with investing too… which could be the reason why investors keep asking for new avenues to invest, all the time. If we suggest some Mutual Fund schemes, they say that I have already invested with that fund house, little knowing that we may be suggesting some entirely different scheme, though it is from the same fund house.

Also, there is a perception that investing in Mutual Funds is for the short-term, whereas investing in properties is for the longterm. The perception is ofcourse entirely erroneous. Mutual Funds are probably treated as a shortterm investment probably because they are quoted and their prices are known on a day-to-day basis and selling them is very easy. Also, the taxation for Equity Mutual Funds is benign – Long-term capital gains after 12 months of investment is nil. Equity is treated as an even shorter term investment. It is more often treated as a speculative investment, instead of the actual long-term asset, it can be and should be. Because of this wrong perception many people resort to day trading in equities. Many others keep buying and selling in the very short term usually calculated in days and weeks, instead of years.

However, Mutual Funds and Equities are Growth assets that could give good returns, over time. Those who have invested and stayed the course, will vouch for it. Sensex has given a 18% CAGR since 1979, which is creditable. That is indicative of the kind of returns that this asset class can deliver. The perception continues inspite of knowing these statistics. FDs, Bonds, PPF etc. are investments of choice among people due to the fact that investors want to put their money where there is least risk. But, there is a risk in that too – the risk of money depreciating in real terms, considering tax and inflation.

Closer Look

Citizens chase the latest fads in their quest for new avenues to invest money. Property and gold are the latest to catch their fancy. There are many who tell me that property prices cannot go down in Mumbai. I’m not so cock sure, for one. Their outlook is coloured by the relentless rise in property prices in the last 6 years or so ( with a dip in between in 2008-09 ). But, the steep appreciations which have happened will most probably not happen, in future. Most probably, it will settle in it’s longterm average of 6-9% yearly growth pattern. Those who buy property for investment expecting major appreciation would be disappointed. Property also offers low rental potential of about 3-4% of the property value, for Residential properties. For commercial properties, it is much better at between 6-12% of the property value. Hence, investing in properties should be tempered with this understanding rather than based on the exuberance of the last few years.

Gold as an asset class has been in existence for a very long time. In the past 10 years, it has done well. The longterm performance is not as good – 8%+ CAGR for a 20 year period. Gold performance depends on several factors. Gold moves up when there is uncertainty in the environment & when the dollar depreciates. Gold is seen as a storehouse of value and an asset of the last resort ( whether it actually is would need to be validated only in such a scenario ). Gold does not have any real use other than ornamentation. It is also a speculative asset as one will not be able to get any regular returns on Gold, unlike in the case of Equity shares, Fixed deposits or properties. So, the primary reason for buying gold is in the expectation of appreciation in their prices. Any asset which is bought with the only expectation of a future price rise and not other payout is speculative ( Land investment also falls in this class ).

Starting point

Investors need to understand one fundamental fact. Whatever they invest in, needs to meet their goals. Goals have priority. A Retirement planning goal would be high priority and a holiday abroad may be a low to medium priority goal. A goal also has a time frame. For instance, one may require Rs.25 Lakhs after 10 years for child’s education. Some thing like a car acquisition may be more immediate – like a year from now. Whether the goal is short, medium or longterm has a major bearing on how one should save for them. Apart from this, the amount of money required for the goal is of major importance.

After getting these important pointers one also needs to consider the number of years one has till retirement, the dependencies that are currently there in the family and whether it is a single income or a multiple income family & health condition of family members. Based on that, investments need to be made to meet short , medium & longterm goals. Based on the number of years to retirement, the aggressiveness of the portfolio is decided. For a person who has 10 or more years to retirement, the portfolio can be aggressive. Depending on the requirements for their upcoming goals, they could invest upto 75% in Growth assets like Equity oriented assets. The nearer the goal, the amount required for it needs to be brought into debt instruments which is not subject to fluctuations and erosion. This is to ensure that there will definitely be money for the upcoming goal.

There needs to be an over-arching strategy while investing. One needs to know what & where are the goal posts are, while putting together their investments. Also, the focus should be on regular investments with a longterm orientation, instead of trying to ride the crest of the latest hot-selling product. In short, responsible investing.

Author - Suresh Sadagopan ; Published in Business Standard on 17/4/2011

It is difficult to time the real estate market

2011-05-21T05:28:00.000-07:00

It’s everyone’s dream to own a home. Big or small, a roof over one’s head has such an appeal with people, even Rajnikant can only dream of!

But owning a house has become a distant dream for many due to spiraling prices. People have been waiting in the sidelines, expecting some correction to happen. In 2008, there was a correction. As in any downturn, there were swirling rumors of prices dipping further. The upshot – most people sat on the fence, in a wait and watch mode.

In some markets – notably Mumbai and Delhi, the property prices have risen in many places and crossed the highs hit in 2007. In many other cities, prices have not risen as much as in Mumbai or Delhi. Those who missed the bus of buying in the bust, are now returning after a long wait.

Should you buy now ?

It depends on whether the property is for own use or an investment. It makes sense to scout around for reasonable prices if the property is for own use. Homes bought for residential purposes are long term investments. It will not matter too much if the property price goes up or comes down, in the near future. In the long term property valuations are expected to only rise. Even then, value can be unlocked only if it is sold. So, if a property is found which is a good value proposition and also is convenient in all other respects, one should go for it.for investments, should you still buy?

From an investment point of view, there are many options. Residential apartments, commercial property, land, serviced apartments are some common options. Apart from this, there are also Real Estate PMS that invest in properties across the country.
In property, the prices can vary widely even in the same vicinity, from project to project. Before buying a property, one should check on the reputation of the builder in terms of delivering on promises as far as amenities, construction quality, timeliness in delivery and reputation for clean & fair dealings. Property values go up depending on the developments in the vicinity too. Property supply in the area and amenities like parks, schools, malls etc also impact the prices. All these need to be factored while taking a decision. Many times, it may be difficult to take a call on this.

For those who want to play it safe, it may be a good idea to consider a Real Estate Fund. These funds typically invest in land, residential, commercial and other developments across the country. There will be professional management and risk diversification in view of the different kinds of assets they invest in and geographical diversification.

In case of someone buying a property directly, tax savings through investments in capital gains bonds or investment in another residential property are possible. This will not be possible in a real estate fund and the income from this will be applied to tax.

Will the interest rates go up ?

That is a million dollar question! The interest rate tightening cycle has more or less run it’s course and there may be very little left. That means, the interest rates may still go up but by a small increment.

What this means is that even floating rate loans can be a good idea now, especially since floating rate loans are offered at a lower level as compared to fixed interest loans.

Is it a good idea to prepay housing loans ?

Housing loan interest rates are some of the lowest loan rates available. Currently it is in the region of about 9.5 per cent – 10 per cent. Along with the income tax exemptions available, the effective rates will be less than 9 per cent. In view of this, it may be a better idea to retain the home loan and invest surpluses in instruments which offer over 9 per cent returns. The exception to this rule is for those who may spend the money. For such people, it may be a better idea to prepay. However, while prepaying one should take note of any penalties that may be applicable for prepayment. The other exception is if the amount of EMI being paid constitutes over 50 per cent of the monthly income. In such a case, it makes sense to prepay and bring down the EMI outgo to within 40 per cent of the monthly income.
Property has a huge lure among the public. For one it is tangible and everyone understands it. Over time, property definitely appreciates and can be a great security to the family. The important thing is to be prudent when evaluating and buying property. Timing is difficult here, as in equity markets. Take a longterm view. Once you do all this, you cannot go wrong!

Author - Suresh Sadagopan ; Article appeared in Indian Express on 16/4/2011

A sane way to deal with spiralling property prices

2011-05-20T23:12:00.000-07:00

I always used to love Asterix and Obelix comics. They lived in a village in Gaul ( present day France to Switzerland ).. a bunch of colourful caricatures, if there were one. Life was fine in the village… but they had one persistent and eternal fear – that the sky will fall on their heads!

Ofcourse, it did not fall, in any of the various despatches that I have read. Such deep seated, but unfounded fear was comical to me when I read. But on deeper reflection, I felt, we all have our fears – we persist with it even if we are proved wrong.

One such is the fear that we will not be able to buy a home anytime in future, if we don’t buy today. This ofcourse is great news for real estate industry, for that would mean people buy, here and now. The push the thing along by announcing special prices now and subtly indicating that prices are going to go up, in the near future.
The craving for a roof over the head is primal. A home of one’s own is even more important for the ladies. They feel insecure at the thought of not having one’s own home. The thought of being thrown out of a rented home – the fear – is somehow etched in their mind. Women by nature seek security more than growth. They are homemakers… they want their nice nest, even if it is small. It is still their nest.
Everything is fine, as long as it is possible to achieve the end of going for one’s home, with the earnings at their disposal. But, lot of times, the home prices have shot up so much that it has moved up, up and away… so much so that, it is no longer within reach. This is when people start despairing and panicking. I know people who are willing to sell everything and put it in a home. That kind of behavior is counter productive. Anything done in panic is bound to bring ruin. That will compromise the investments being made for the other goals.

The reason for people panicking is that they base their decision on what has happened in the past 5-6 years. Even in these 5-6 years, there was a period of 2 years when the markets corrected and the sentiment was deeply negative. The problem now is that people have forgotten those days. They did not have the nerve to put in money in end 2008 or beginning 2009. Those would have been the right time to invest. But most investors, panicked at that time. People did not sell out in real estate primarily because it is not easy to exit out of real estate. Otherwise, a whole lot of them would have even got out at the wrong point.

The fact is that real estate market is also a cyclical market. It cannot keep going up all the time. There will be periods of correction. The 20-25% increase in a year in properties is another thing being talked about. This again cannot happen, year-on-year, in the longterm. When the economy is increasing between 7-8% and salaries in the organized sector is increasing at a median of about 10%, how can real estate prices increase by 20-25%? This is such a simple thing for one to understand. Yet, many people don’t seem to get the point.

The best way to plan for a home is to start small. It would be an excellent idea to buy a small home to start with and then upgrade that to better & bigger homes over the years. This basic idea is not my own. This is what most people have been doing in the past. But, now people are looking to invest directly in their dream home. The aspirations have gone up. People want a good living space, with top-of-the-line amenities and a good address, right at the start. But, that costs a load of money. That is the problem today.

For those who do not want to do trade up over time, it would be a far better idea to rent a home in a place of their choice and accumulate savings and wait till the time the real estate markets turn. This is not as difficult as it sounds. The approximate rental for a Rs.50 Lakh property would be about Rs.15-17,000/-pm. Typically, rentals are about 3-4% of the current property value, for residential property. The returns are even lesser in smaller towns. Hence home buyers are essentially betting that property prices will go up and give capital appreciation. Hence, owners are actually giving it to you cheap. Instead of getting pressured into somehow buying a property, it is a saner thing to stay in the property of your choice on rent. Even if one has to move, one can always move in the vicinity itself. The argument that school will get disrupted is not hence tenable. Address change is a problem and will entail some paperwork. That is unavoidable. But atleast, you will not be overstretching yourself and feel like a rubberband.

The sky is not falling. Property markets have cycles. You could always wait it out and buy later. In fact if more people do this, property prices will not shoot through the roof and speculators will exit the market as it is unattractive. Think about it.

Author - Suresh Sadagopan ; Published in Indian Express on 14/5/2011

USE Financial planning tenets to keep your finances ship-shape

2011-05-19T23:52:00.000-07:00

Have you ever seen a military vehicle with paint peeling off it? Chances are, you haven’t. The services maintain their vehicles well and keep them painted and well-oiled always. Even their living quarters, grounds and other utility areas are clean and neatly turned out. There is an important lesson to be learnt from the armed forces – one needs to give time and attention to the truly important aspects that are crucial to success.

For individuals, it is their finances which is important. Most people own up that money is very important for them. Yet, a significant majority neglect their finances and allow it to descend into chaos and ruin. There are a few pointers which could be used to tackle finances and keep the money green and growing.

Money Management - Allowing money to remain in the savings account for long is criminal, for it earns low interest. A better proposition would be to invest in sweep-in deposits in the bank. This money is available whenever one wants. Till that time, it will earn higher interest. Alternatively, if one could set up an overdraft account with one’s bank, it is even better. Here, one could borrow from the bank for the period when it is required. The interest needs to be paid only for that period. This is a cost-effective option. With an over-draft account the balance in one’s account can be stripped to the bare minimum. The other way is to invest in money manager funds of Mutual funds, where the returns post tax is higher than returns from SB account as well as even the sweep-in deposit.

Debt - It is a great idea to use credit cards with discretion. The best way would be to pay the bills before due date, instead of rolling it over. Also, any purchases should ideally be done with money accumulated through investments, over time. Saving Rs.2,000/- for 18 months for a LCD TV is a better idea than simply swiping the card and paying EMIs. In the former, there is no pressure and is a disciplined approach - the purchase happens only after accumulating the required sum. Swiping the card approach is far more dangerous as there are no limits here and can go out of control. For all items of consumption, this approach of saving for it fully or substantially before buying would be the ideal approach.

Even in case of buying a home, one needs to exercise caution, though an asset is being created. Many people get carried away when they see properties and like them. They stretch beyond what would be easy to service. A better approach would be to clearly draw the lines on how much one is willing to spend for a home and stick to it. Even here, it is a good idea to accumulate money for a substantial down payment, instead of the mandatory 10-15%. It is good to go one step at a time. Buying a smaller, affordable property first and trading it up over time, is the sane thing to do – it is easier and much less stressful.

Investments – First the don’ts. Don’t invest in every scheme that comes into the market. Don’t invest because your friend/ colleague is investing. Everyone is investing and so it must be good is no reason to invest in a product. Find out how much you will get after tax from the product. Find out what is the risk. Is the tenure suitable and is there liquidity? After considering all this only, one should invest. A bank FD offering 9% would translate to only 6.2%, after tax. Consider all options that could give good post-tax returns. It is often found that people are inclined towards debt instruments like FDs & bonds, property, equity etc. People who invest in a balanced way are in minority. A proper allocation towards all assets is imperative. That will achieve diversification. Running away from equity is counter productive. Though the risk is higher with equities, it goes down over time. Over the longterm, it is equities that beats inflation. Investing in Equities through the medium of Mutual fund schemes is advisable for the normal investor.

Insurance – Lot of people confuse insurance and investments and get into trouble. Also, people still invest in insurance primarily for tax breaks. Insurance is to provide security to the family if the primary income earner were no more. Term insurance is one of the simplest & cheapest products which addresses this very well. Take adequate life cover to protect the family. Similarly, medical insurance is a must today. Though these premiums may not get returns, it is not to be seen as a wasteful expense. Do we see our home as a wasteful expenditure. Proper insurance is a security net and you could consider the premium paid as the rent you pay for it.

Liquidity & provisions – Liquidity of about three months expenses is recommended in most cases. In cases where there is uneven income, a higher liquidity margin would be suggested to take care of any cashflow problems. For big upcoming expenses, provisions need to be made by way of allocating investments that would mature just before the money is needed. Proper provisioning will ensure that there are no sudden financial shocks.

Once you take care of these, then life would be a breeze. Finances are important. Like the armed forces, you need to spend some time on it to ensure that your finances are in fine fettle. Good tending ensures that you are on a nice velvet patch, in future. Ignore these basics and it will come back to haunt you.

Article by Suresh Sadagopan ; Published in DNA Money on 29 April, 2011

Investment options in a rising interest rate regime

2011-05-19T23:46:00.000-07:00

The rate hike for Repo and reverse repo of 50 basis points ( 100 basis points is 1% ) was received by the market with a bit of shock, as they were hoping for a 25 basis points hike.

This announcement will send some cheer to investors of Fixed income securities like FDs. In the recent months only, FDs have been giving 9-10% returns. Now, this rate hike would mean further increase in the interest rates that FDs would offer. It may take some time for that to be transmitted through the banking system.

Coming to those with loans, it could be difficult times ahead. The loans, most of which are floating rate loans these days, will all move up by 0.5% and will put pressure on the borrowers. The bad news is that the rate hikes are not over yet, if one were to look at the inflation situation in the country, commodity prices across the globe and crude oil prices in particular ( which has linkages across all sectors of the economy ).

Now coming to debt funds, these are times when investors have to be careful as to what they pick up for investment. Investors would know the inverse relationship the interest rates have with the fund performance ( NAV ). This can be explained with an example. Let’s say A has invested in a Rs.100 bond, yielding 8%. Now, if the interest rates move up, new bonds get issued at a higher coupon rate, say 9%. The old bond which is yielding 8% will become less valuable. If it has to compete for custom, the old bond will have to sell for less such that the yield to a person who buys is now 9%. Hence, anyone holding securities which are traded in a rising interest rate scenario, will see an erosion of wealth. If a debt fund is holding such securities, there will be a fall in NAV as the prices of the underlying securities will fall. But again the effect on different kinds of debt funds would be different.

Investors who have a longterm investor horizon and who are investing in income and Gilt funds can stay put – but give a time frame of 2 years plus, for their investment. This is because, the rate cycle is expected to reverse direction in a matter of months. If that were to come to pass and the interest rates come down over time, the NAV of these funds will rise. But for that to happen, one has to wait. That is precisely why I had mentioned that one should invest in funds investing in medium to longterm instruments, with a view of over 2 years.

Shorter duration funds like Ultra short term funds are less affected than the longer tenure funds, whose sensitivity is more. Investors who do not want to be exposed to the interest rate risk ( i.e the risk of their yields rising or falling due to the interest rate movement of the underlying securities in view of the fact that these securities are traded ) should look at Fixed Maturity Plans ( FMPs). In FMPs the underlying investments are subject to fluctuations. However, it does not affect the final performance as the securities are held to maturity, when the coupon rate becomes payable. Also, FMPs can buy securities which mature on or before their maturity date. This makes FMPs a least risk option when the interest rates fluctuate. Since the interest rates have gone up, more instruments with higher yields will become available in the near future, prompting more FMPs to be launched.
The other option before an investor is a dynamically managed debt fund, where the fund manager takes a call on the unfolding situation and manages the portfolio. These funds can again give good returns based on the expertise of the fund manager. Over to you now. Choose your way to reach that pot of gold!

Article by Suresh Sadagopan ; Published in Moneycontrol.com on 7/5/2011

ULIP charges may be down but...

2011-05-19T23:42:00.000-07:00

This is the perpetual question & dilemma we face as planners... Are combination plans like ULIPs better or is it better to treat investments and insurances separately? This question needs some examination. Charges in ULIPs have come down, since September 2010. Even then, the charges on premium allocation & policy administration alone ranges between 35-50%, on an average, for the first five years. Also, the surrender charges have come down drastically, though the surrendered amount would be available only after 5 policy years. There will be fund management charges of between 1- 1.35% pa and applicable mortality charges, every year. ULIPs being combination products, usually with a focus on a particular goal, would then be a good product, right?

The answer is not straight forward. For that we need to compare with ULIPs, an alternative product bouquet giving similar benefits. The alternative is a term insurance and investment combination. Term insurance premiums have come down dramatically, in the recent past. For a 35 year old male, premium for Rs.50 Lakhs would now come to in the region of Rs.8,000/-pa. This makes the proposition pretty attractive.

As far as investments are concerned, the field is wide open. One could invest in Equity, Mutual funds of any persuasion, PPF, FDs, other debt products, properties, commodities etc. The investment mix would be dictated by their goals and the appropriate investment choices, over time. This gives tremendous flexibility to the investor. This could also, result in confusion and decision paralysis.

From a pure cost point of view, assuming similar returns on the funds deployed in equity Mutual funds & ULIPs, some calculations indicate that the current ULIPs can match and better the returns from the term insurance & investment combination from 12 -15 year onwards. Mutual fund schemes have a longer performance history and have outperformed ULIP funds. It may be that ULIP funds are differently managed and take longer term calls, which is factual. The average returns of the Large cap equity mutual funds that have completed 10 years is 23% CAGR. Sensex has returned about 18%+ CAGR in 10 years. The index returns since 1979 too is incidentally about 18%+. Most ULIP funds do not have that kind of longterm track record too.

There are other issues apart from performance. Some ULIP funds may perform well at some points. But since in ULIPs, you cannot simply change over from scheme A from one fund house to scheme B from another fund house ( like in Mutual Funds ), there is a huge problem if the funds underperform. The investor is then stuck. How can the investor know in advance which funds will perform well, over a 20 year period? Therein lies a major problem.

If however, ULIPs are compared with direct equity investments instead of Mutual Fund investments, the costs will be far less and ULIPs will not be able to match them at all in the foreseeable future.

Performance however is not the only argument for going for the term + investment combo. In ULIPs the investments go into a couple of funds, throughout the tenure. This results in a huge concentration risk. Should the funds invested in underperform, the investor would be adversely affected, in view of the huge exposure. ULIPs give some choice through their funds. The choices available outside like PPF, commodities, properties, direct equity ( where costs will be very low in a buy and hold situation ) etc. are outside the ULIPs purview. These choices ensure better diversification & lower costs, than in an ULIP. Investments are made for the longterm. However, if it needs to be surrendered or partially cashed out, many ULIPs have limitations. Taking out the surrendered amount is possible after 5 years only. Partial withdrawal also has limits in some ULIPs. Though in the normal course, this may not be necessary, life is never linear. Should the funds be required, an ULIP can impose unnecessary conditions and penalties at a time they require relief.

Investment in ULIPs may keep going to a couple of funds, irrespective of the situation, over a long period. This is not the best way to invest for the longterm. The funds have to be allocated appropriately over time, in appropriate instruments or have to be reviewed and reoriented. That would not be possible in ULIPs, unless they have asset allocation funds among them.

The charges once you get into, will not change. This looks positive. It is as much a negative. For instance, charges in ULIPs have come down in the last six months. However, if you have bought the product prior to that, the higher charges will apply throughout term. This limitation is not there in other investments. You could simply migrate to lower cost products. You could also redo your term insurance at a lower premium, in case it comes down.

Lastly, many people will find it difficult to commit the amount required for a goal, every month, right from the beginning due to commitments like a home/ car loan payments. However, later in life they could hugely increase it. ULIPs allow topups, but with limitations. Investments of course allow you the full latitude.
Now, it’s over to you. Decide whether it is ULIPs or simple term insurance & investments, that will work for you.

Article by Suresh Sadagopan ; Published in The Economic Times on 11/5/2011

Create a healthcare corpus

2011-05-19T06:53:00.000-07:00

With the Union Budget introducing service tax on hospitals and health check-ups, your medical bills are likely to get higher.

More and more people, now, realise the need for medical insurance. They have either experienced sudden, unmanageable medical expenses or have known someone in a similar situation. There are still many who rely on employer provided cover or family floater.

With soaring medical costs, an individual health policy with adequate cover is necessary.

COST
A recent survey by global consultancy firm, Towers Watson, has indicated a steady rise of 15-25 per cent in health cover premiums. Unlike life insurance, there is no ways to assess the need for medical cover.

MENTAL BLOCKS
* Why pay for health insurance, I won’t get back anything
* My family is healthy, a small health should be enough

Looking at the high medical costs, we suggest a minimum of Rs 5 lakh cover per adult and Rs 3 lakh per child. Most companies these days cover upto Rs 10 lakh. The differential between a Rs 5 lakh cover and a Rs 10 lakh one is not much.

For instance, 42-year old Nandan, his wife, Neelam (38) and two kids, aged nine and seven years, are fit. A Rs 5 lakh cover for the adults and Rs 3 lakh for each kid would see a premium of Rs 22,500 a year. If Nandan covers his wife and himself for Rs 10 lakh each and his kids for Rs 5 lakh each, the premium will be Rs 31,000 per annum. They need to pay Rs 8,500 more, to double the cover. A good option, as medical emergency can arise anytime.

BUDGET SPOILER

This Budget, the Finance Minister has brought medical treatment under the service tax net. All non-government hospitals with 25 or more beds, central air conditioning, partially or fully will be charged service tax. And this is most likely to get reflected in patients’ bill. There is, however, an abatement of 50 per cent, which means 5.15 per cent will be levied instead of 10.30 per cent. Also, all diagnostic tests will have to pay 5.15 per cent service tax. Obviously, this is a negative step. This may push up healthcare related expenses for all of us.

Increased costs due to service tax, will automatically reduces the insurance cover to the extent of the tax.

PORTABILITY

This move by the Insurance regulatory and Development Authority (Irda), allows a consumer to move from one health insurer to another and carry over benefits like waiting periods for pre-existing diseases. This will ensure policyholders cannot be held captive and better quality services. This will be effective from from July 1, 2011.

POLICY CONSTRAINTS

Employer-provided health cover is good for its coverage of pre-existing illnesses and child birth, related expenses immediately, cover for parents (on a co-payment basis, in many cases), and importantly, at negligible cost until you want extra cover. For that you need to pay a residual premium.

HIGH MEDICAL BILLS

* Employer’s or family floater cover may not be sufficient; buy individual cover
* Industry survey shows health cover cost may rise by 15-25 per cent
* The Budget introduced service tax on hospitals and health check-ups to reflect in bills
* Rs 5 lakh cover for adults, Rs 3 lakh for children recommended

The limitation here is, it is valid only as long as the job. These are rarely portable. Not all companies may provide health cover. The cover also needs to be sufficient.

Many opt for family floater plans, as they are cheaper. There is no limit to which the sum assured can be used by one family member. The problem arises if more than one person fall ill together. That time, if one person has higher bills, the other member suffers due to lower cover under the same policy.

Article by Suresh Sadagopan Published in Business Standard on 6/3/2011

Choose schemes correctly, and with a historical record. The rest is easy...

2010-12-30T00:53:00.000-08:00

The term investment is used very loosely. People say they are investing in a house, even if they are going to live in the same house. You cannot really unlock the property’s real value unless it is sold. Similarly, most stock market investors gamble more than invest - buying huge quantities in the morning and selling them before afternoon. None of these are truly investments. There are many good investment options though, mutual funds (MFs) being one. Equity MF schemes have delivered a 20-plus per cent compounded annual growth rate (CAGR) over 10 years.

This may not look impressive but see the difference between Rs 1 lakh invested at eight per cent and 20 per cent. The former would grow to Rs 2.16 lakh or 2.15 times the amount invested. At 20 per cent, it becomes Rs 6.19 lakh in the same 10 years. This, when an investor needs to do nothing at all.

WHY MUTUAL FUNDS?

• Lower risks due to diversification
• Different funds to suit investors with varied risk appetite
• Professional advice at low cost
• Liquidity at redemption

The several regulatory changes, however, have led to distributors all but abandoning MFs. This has created a problem for investors as investing in MFs involves numerous rules even for a simple thing like a change of bank account.
Despite the troubles, one should do so since it is one of the best ways to participate in equities.

OPTING FOR MUTUAL FUNDS

Mutual funds come with lower risks due to diversification. Equity MF schemes invest in different companies, sectors and even across market capitalisation levels. Even if one or two sectors don’t do well, others will compensate.
Take the case of DSP BR Equity Fund. Reliance Industries makes up 3.75 per cent of its portfolio. The top 10 holdings make up 28 per cent only. Energy is their top sector at 14 per cent The second largest is financial services at 12.5 per cent .It is invested across some 15 such sectors.

By investing in MFs, a normal investor gets access to a fund manager who is a specialist and professional in deciding which stocks to invest in or switch. And this comes at a small cost.It ensures you do not have to worry about the market movements, follow economic trends and data and other news that can affect the market.
Good fund managers generate that alpha, which makes his role (and the charges) worthwhile. Fund managers differ in style of functioning. Some churn the portfolios aggresively, while others may swear by a buy and hold strategy.

Liquidity is another plus point for MFs. There are many who have invested in one of the hugely hyped initial public offerings (IPOs) or much-talked about shares that are no longer trading now. When there are just no takers for these equity shares at any price, the investor faces a huge loss. That is where MFs score. If you want to sell, the fund will redeem the units for you. Illiquid shares or market conditions are their problem, not yours.

MFs schemes allow one to invest in amounts as low as Rs 5,000. Regular monthly investments can become a way of life if one adopts the systematic investment plans (SIP) that lets you invest as little as Rs 100 per month. Since they are invested every month on a given day, the market timing risk is taken out of investing – we tend to invest when the market is going up and tend to hold the purse when the market is down. With SIPs, since the same amount of money is getting invested every month, irrespective of market conditions, one averages out the buying price, over time. This is called the rupee cost averaging concept.

The array of products are suited for all kinds of investors. There are all kinds of funds, large-cap, small-cap, thematic, hybrid, sectoral and debt. In the latter, there are ultra short-term funds, money manager funds, bond funds monthly income plans(MIPS), income funds and others.

PICKING WITH CARE

But investors need to be cautious about the kind of funds that they invest in since their returns depend on the scope of investments for a fund. For instance, investment by power sector specific funds may be restricted to the power sector which may or may not be doing too well at a particular time. One could invest in sector funds only if there is high conviction about it. For instance, energy sector companies like those in crude oil production and marketing have not done well. For instance, Sundaram Energy Opportunities Fund was a sector fund and has done badly, compared to broader market performance.

The icing on the cake is the tax benefit one can get. For equity MFs, the tax on short-term capital gains is 15 per cent. Short-term is defined as less than 12 months. Anything sold beyond 12 months is classified as long-term. No tax applies on long-term capital gains of equity funds. For debt funds, short term capital gains will be at one’s slab rate. Beyond a year, it is 10 per cent without indexation and 20 per cent with indexation. That makes the actual tax paid much less than comparable debt instruments.

Retail investors have yet to understand the benefits of investing through MFs. But given its unassailable relevance to investors, it is only a matter of time before they do.

Published in Business Standard on 26/12/2010

Got a medical cover? See if it is adequate

2010-12-30T00:41:00.000-08:00

Life for Gopal was sipping tea in the mornings with his newspapers. His balcony, overlooking the park, was an ideal retreat to soothe frayed nerves, although Gopal seldom had those.

His office was nearby and being in a small town, he could reach either way in 20 minutes. A picture of contentment, if there was one.

But these days, Gopal has turned jumpy. He is irritable very often and gets into arguments with his colleagues. His bosses have noticed his change of demeanour and have mildly brought it to his notice too. But, Gopal can’t help it.
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It all started when his wife had a heart attack. Gopal refused to believe the news when his neighbour called around 3 pm that afternoon to say his wife has been admitted in the hospital and the doctors suspected a heart attack. Mohini and heart attack? After all, she was always so strict about her diet and had a lean frame, and there was no prior indication whatsoever of any malady.

But, it was. Gopal almost had an attack himself when the doctor said she might have had more than one attack in the past couple of days. It was diagnosed later through angiography that there was one severely blocked artery and one that was partially blocked. Angioplasty had to be done. Gopal consented, somewhat relieved that it would be a non-invasive procedure.

But a bolt from the blue came with the bill the hospital presented —- a whopping Rs4.15 lakh. And they hadn’t even conducted an operation (he learnt later that the cost was so high precisely because it was non-invasive)! The medicated stent cost Rs1 lakh; the doctors’ fees were Rs1 lakh more; there were so many other charges that brought in the rest.

Gopal’s medical insurance would pay him only Rs2 lakh. So he would have to bear the rest.

He rued ignoring his agent’s advice that the cover was very low and he should increase it. Given the cost of medical treatment these days, it helps to have a bigger medical cover —- typically, Rs5 lakh for adults and Rs3 lakh for children — Dinesh had said.

With all his family members in good health, why waste it on insurance, Gopal had asked himself then. Only if he had factored in an emergency of this order!

In fact, Dinesh had also suggested a critical illness cover, which he turned down. That would not have covered Mohini’s condition. But, it would have certainly come in handy if an open-heart surgery had become necessary.

Much as Gopal wishes Mohini would not require any further medical attention in future, he can’t help cursing himself for being under-insured. Not only did he have to shell out Rs2.15 lakh from his pocket, but has also got to continue spending on the medicines which she must continue to take.

Many came forward to help, though he quickly paid them back by taking a personal loan at an interest of 15% per annum. Now, the loan has become a burden. He has to pay Rs5,115 every month for 60 months.

Worse, Dinesh has told him it would not be possible to enhance the insurance cover immediately, though the existing cover has been renewed.

No wonder, Gopal has become irritable. The morning tea doesn’t taste as good any longer. The newspapers have failed to grip him. The park in the foreground, which he used to gaze at endlessly, has no appeal left.

In the mornings, he just paces up and down the hall, thinking how to make up the extra expenses of about Rs7,000 a month (towards EMI and medicines). He has started giving lectures after work, which saps him of whatever energy he has left. He hates the evenings.

And the last few days, he has started hating the hospital ceiling, for that is all he is able to see. He had passed out in the office and they admitted him here. The doctor fortunately diagnosed it as just stress and high blood pressure. He would be discharged this afternoon.

Published in DNA Money on 30/12/2010