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Rediff.com  » Business » 10 rules to improve your financial future

10 rules to improve your financial future

By Sanjay Matai, Moneycontrol.com
May 17, 2006 09:35 IST
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The best way to start is to design an investment plan to suit your individual circumstances and regularly monitor the same. As you begin and travel on your financial expressway, these ten lessons should ensure that you remain on track and keep achieving your financial goals on the way.

1. Risk is inevitable -- Manage it

Once you decide to put your money to build long-term wealth, you have to decide, not whether to take risk, but what kind of risk you wish to take. Determining your risk appetite involves measuring the impact of a loss on your financial health - and mental well being too.

Money in a savings account is safe. But inflation will erode its' value, a risk that would almost ensure your failure to reach your goal of long-term wealth.

On the other hand, investment in stock market may be risky over the short-term, but should provide consistent and remarkable growth over the long term.

2. Start early -- Benefit from compounding

There is no truth to statements like: 'I am too young to start saving.'

For example, if you want to be crorepati (millionaire) by 45, you would need to invest only Rs 160,000 per year if you start at the age of 25 (assuming 10% returns p.a.). But if you start at the age of 35 you will need to invest Rs 570,000 per year to achieve your 'crorepati at 45' objective.

If you start saving and investing early, it will set the stage for significant financial growth later in your life.

3. Have realistic expectations -- Greed is bad

Most people invest in stocks and expect them to double in quick time. If you want to double your money, either buy a lottery or go to a casino (but be prepared to lose everything). Stock market is not gambling.

The market is ultimately a reflection of economic growth. As such one needs to align one's expectation of returns in line with the expected GDP growth. Compare the performance of your portfolio with relevant benchmark indices and develop realistic expectations.

Expecting unreasonable returns will surely cause disappointment, leading to excessive risk-taking.

4. Invest regularly -- Use time not timing

Market timing is impossible. You may be lucky once or twice but history has not produced a single investor who has made money regularly by timing the market.

Don't panic when the market is dropping and don't become greedy when prices are rising. Emotions can be the greatest enemy to your long-term investment plan. History has shown that when most investors are selling, you may have been better off buying.

5. Stay Invested -- Be a marathon runner

The markets have seen lots of ups and downs, but history shows that over time the value of a well-diversified portfolio will increase. That's because prices don't rise every day -- they spurt only during a few short intervals of time.

Stay invested for longer periods. It will keep you from making common mistakes such as timing the market, picking bad stocks, speculating on stocks that are worthless, investing on borrowed money, trying to make a killing in some fad-of-the-day stock, etc.

The reason most people don't get rich with stocks is that they don't stay in long enough.

6. Don't churn your investments -- It only increases costs

Don't buy stocks. Buy businesses and that too after due research. And since businesses generally don't change fortunes overnight, there is no need to get in/out frequently as and when some short-term events play out in the market.

Too-frequent trading cuts into the investment returns more than anything else. Remember that the only person who makes money in regular churning is your broker.

7. Asset allocation -- Each investment class is important

Build a portfolio that is diversified among different types of investments. Because different sectors of the market move at different times in different patterns, asset allocation tends to reduce the risk of huge losses and improves the chances of stable returns. Lack of a well-diversified portfolio, would leave you vulnerable to fluctuations of a particular investment.

However, remember not to over-diversify and own too many investment products -- more so if the corpus is small -- resulting in higher fees relative to the corpus size. Always seek to maintain a balance between the two.

8. Sell your losers -- Hold the winners

Historically it is seen that investors book profits by selling the stocks, which have appreciated, but continue to hold onto stocks that have declined, in hopes of a bounce back. This one single fact has been the reason why most investors don't get the true benefit of the markets.

While it's important not to underestimate good stocks, it's equally important to be realistic about investments that are performing badly. Recognising your losers is hard because it's also an acknowledgment of your mistake. But it's important that one should be honest and book a loss, else future losses may even be greater.

In both cases, judge the companies on their merits according to your own research. You will never have a tenbagger if you simply sell everything that has say doubled or tripled.

9. Hot tips usually burn your investments -- Stay away from them

Relying on so-called hot-tips from someone, be it your friend, broker, neighbor or anyone else, is akin to gambling. Sure, you may sometimes be lucky with tips, but they will never make you an informed investor, which is what you need to be to be successful in the long run.

Focus on the future of the company whose stocks you plan to acquire and not on the share price or some hot news. If you've got some information, chances are that so have many others and so the information is already factored into the market price.

10. Taxes are important - But not that important

The primary goal of investing is long-term growth of your money through sound investment decisions. Tax implications are important, and you should always try to minimise taxes thereby maximising your after-tax returns. But putting taxes above all else can often lead to poor decisions.

For instance, people invest in insurance because it gives tax sops. But in the process they forgo opportunities of earning good returns and end-up compromising on the achievement of their financial objective.

Keep the above rules in mind and chances are that you will more often than not turn your dreams into reality

The author is an investment advisor. He can be reached at smatai@hotmail.com

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