Debt Snowball Strategy – Easy way to repay Loans

Hemant Beniwal
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1
Debt Snowball Strategy – Easy way to repay Loans

When you take some snow in your hand, make a ball out of it and let it roll in the snow, the ball becomes bigger and bigger. You get a big snowball without attempting to make one. This snowball strategy can be used to pay off debts. It is good to pay off your debts as you will be in better shape from a financial perspective. Let us see how the debt snowball strategy works. In this strategy –

Debt Snowball Strategy - Easy way to repay Loans

Must Read:- Should I take loan

  1. You have to list down all your debts from the smallest one to the biggest one in terms of amount irrespective of the interest rate.
  2. Then you allocate money to each of them such that minimum payments are done for all loans except the smallest one. The smallest one gets the biggest chunk of the payment that can be made. Once the minimum amount is paid for all other loans, make the minimum payment for the smallest one and some extra payment as well if possible.
  3. Keep doing this till the smallest debt is paid off. Then you have 1 loan less. Then you pay off the other loans in the same manner by paying minimum amounts for all loans except for the debt of the smallest amount now and pay as much as you can towards it.
Debt Snowball Strategy - Easy way to repay Loans Click to Tweet

In this way, the number of loans will start reducing, and at the same time, the amount to be paid for loans will also decrease as you are making a payment towards each of them. You will be on a roll like a snowball by eliminating debts one by one.

Also Read:- What is Planning Fallacy and how it affects your Finances?

Here is an example wherein it is assumed that the borrower has an amount of Rs.8000 to pay in every cycle –

Cycle 1

Debt Amount to be paid Minimum Amount that should be paid regularly
Credit Card Payment Rs. 600 (Minimum amount to be paid is Rs. 200) Rs. 200 (Pay the additional Rs. 100)
Personal Loan Rs. 1,00,000  (Minimum Amount to be paid- Rs. 2700) Rs. 2700
Student Loan Rs. 2,00,000 (Minimum Amount to be paid- Rs. 5000) Rs. 5000

 

Cycle 2

Debt Amount to be paid Minimum Amount that should be paid regularly
Credit Card Payment Rs. 300 (Minimum amount to be paid is Rs. 200)

(*Interest charge is not considered here.)

 Rs. 200 (Pay the additional Rs. 100)
Personal Loan Rs. 1,00,000  (Minimum Amount to be paid- Rs. 2700) Rs. 2700
Student Loan Rs. 2,00,000 (Minimum Amount to be paid- Rs. 5000) Rs. 5000

 

Cycle 3

In this cycle, the credit card payment will not appear, as the outstanding amount has been paid

Debt Amount to be paid Minimum Amount that should be paid regularly
Personal Loan Rs. 1,00,000  (Minimum Amount to be paid- Rs. 2700) Rs. 2700 (The balance of Rs. 300 should be paid to this loan).
Student Loan Rs. 2,00,000 (Minimum Amount to be paid- Rs. 5000) Rs. 5000

 

Check:- Read this before you take Education Loan

This strategy keeps you motivated as when you follow it, the loans start to disappear one by one which makes you happy. You will see the plan working and stick to your payment schedule strictly. If you follow your payment schedule strictly, you will soon become debt-free.

There are some criticisms of this method. For example, it does not consider the interest rate of the loans. Some loans have high interest payments. Credit cards, for example, have very high interest rates and it might be a better option to pay off the credit card bill in one go otherwise the interest accumulated becomes a huge sum to pay off.

There is another strategy of paying off debts which is called the avalanche strategy wherein the loan with the highest interest rate should be paid off first. This also makes sense as the interest payment on a credit card is quite high and if you ignore it, over time, the amount to be paid becomes quite high.

The debt snowball strategy works as it gives you emotional encouragement when you see the number of debts reducing and personal finance is a lot about motivation and behavior. If you see your debt reducing, you will be encouraged to be disciplined about your finances. The Avalanche method helps to finish off debts slightly earlier as it targets loans with higher interest rates first.

I think we should use a mix of both methods to pay off debts. Comment your opinion on this.

Saving for Retirement – Mutual Funds Vs PPF VS Insurance Plans

Hemant Beniwal
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1
Saving for Retirement – Mutual Funds Vs PPF VS Insurance Plans

Whether you are in the government sector or private sector, whether a professional or businessman there is one goal for which everyone saves money and that is “Retirement”.

With an increase in the medical facility and the constant increase in life expectancy, it has become more important to save for retirement. An average Indian spends 20 – 25 years of his life in retirement. Still, the majority of the population do not save enough for this major event.

Saving for Retirement – Mutual Funds Vs PPF VS Insurance Plans

Read:-5 Steps of Happy Retirement

In the government sector, guaranteed retirement benefits are already available for employees in the form of pension and other benefits which are inflation-adjusted, however for an employee in private sector or for a businessman, they have to plan their own retirement with different products available in the market such as Insurance pension plans, Public Provident Fund (PPF), Mutual Funds, etc.

Saving for Retirement – Mutual Funds Vs PPF VS Insurance Plans Click to Tweet

Most of the times when people start thinking about retirement first question which comes into their mind are how much to save for retirement and second- which product to select? To calculate the required retirement corpus is very simple but to select the best out of available products is a very difficult process. Let us first show you how to calculate the required corpus for retirement.

Must Read- 8 Facts about Retirement Planning you may not have known

How much to save for retirement?

To calculate the value of retirement corpus few inputs are required which are different for every individual like current monthly expenses, age, retirement age, expected rate of return, etc. Suppose Mr. A is 30 years old and his monthly expenses are Rs.25,000, he wants to retire at the age of 60. So considering 8% inflation, his monthly expenses at the age of 60 would be Rs. 2,50,000.

Below image shows how much your expenses would be at the age of 60 as per your current age

Now if we expect Mr. A’s life expectancy to be around 80 years then he would require Rs.2.5Lakh every month for 20 years. With 2% of the Real rate of return, the total corpus required would be Rs.4.9 Cr. Normally the retirement calculators available online do not consider the real rate of return, so you might get a different answer. However, if calculating through excel then you can use a real rate of return.

Must Read:- Is 1 Crore is enough to Retire?

Comparison of Mutual funds, PPF and Insurance Pension Plans:-

Equity Mutual Funds Public Provident Fund Insurance Pension Plan
Liquidity MF provides the option to redeem on demand, which is extremely beneficial especially during an emergency. The first redemption is allowed at the end 7th year which is 50% of the balance at the end of 4th year. One cannot withdraw money from pension plans. The only option is to either surrender the plan after 3 years or take a loan on surrender value.
Tax saving Only Tax saving mutual funds are allowed for deduction under Sec 80C.

Redemption in equity mutual funds after 1 year is taxable @10% on gain excess of Rs.1 lakh.

 Investment in PPF account is allowed for deduction under Sec. 80C and redemption on maturity after 15 years is also tax-free.

However premature redemption would be taxable.

 Premium paid towards pension plans are allowed for deduction under Sec. 80C. On maturity only 1/3 of the accumulated amount is commuted which is tax-free and the rest of the amount is paid out in the form of an annuity and is taxable.
Lock-in ELSS schemes of mutual funds have a lock-in period of 3 years and no withdrawal is allowed. Many other schemes have a different lock-in period, however, withdrawal is allowed with exit load. There is an initial lock-in period of 15 years and thereafter every 5 years. However one can withdraw money from the end of 7th year. Lock-in period = term of the policy. However, one can surrender the plan or take a loan on surrender value after 3 years.
Expected returns. As equity mutual funds are market-linked hence no return is guaranteed, however over a long period one can expect a CAGR of 12-15% Current interest rate is 7.90% The bonus issued is generally around 4-5% in insurance policies which is in the form of simple interest.
Maximum Investment No limit Limit of Rs.1.5 lakh per year. No limit
Safety Since the money is invested in the equity market, the returns are not guaranteed. However, the schemes are approved by SEBI and are monitored under strict guidelines. Since the scheme is backed by the government, safety is not an issue. The equity exposure in pension plans is nil. Also, insurance schemes are approved under the guidelines of IRDA.
Mode of investment. Through Cheque, DD, NEFT, and RTGS. Cash, Cheque, NEFT. Cash, cheque, NEFT, Credit Card.

 

Check:- Best Retirement plan in India

Why choose Mutual Funds over PPF and Insurance Pension Plans: –

In the above example of Mr. A, total retirement corpus required is Rs. 4.9 Cr. Suppose he chose to save this amount through PPF then required saving per month would be Rs. 30,000 approx. For an insurance policy, he would be required to pay a premium of Rs. 60,000 per month. And for the same corpus if he chose Mutual Funds then he would be required to save Rs. 13,000 approx. The reason why mutual funds require less saving is due to its equity exposure. It can beat inflation and can generate a higher rate of return in the long period of 30 years.

Must read – Retirement expectations vs reality

Conclusion

While considering retirement planning one should select a product which invests into equity, suits his risk profile, beats inflation and gives better tax-adjusted returns. Mutual funds are best as they fulfill the required criteria and offer much-required liquidity option with minimum cost.

Also, mutual funds are successful in creating long term wealth and offers better flexibility than PPF and Insurance Policies. Please remember, overexposure into one asset class can harm your portfolio in the long run. So, one should always invest with the proper asset allocation and review the strategies regularly to get maximum benefits.

So what are you doing about your retirement? Please share in the comment section.

“The One Thing” In Financial Life

Hemant Beniwal
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11
“The One Thing” In Financial Life

I love reading but most of the time it’s related to investments. One of the best self-help books that I have read is “The One Thing” by Gary Keller – a must-read book.

The main idea of the book is “If you chase two Rabbits…. you will not catch either one” so FOCUS on one thing.

Extraordinary results are directly determined by how narrow you can make your FOCUS. You need to be doing fewer things for more effect instead of doing more things with side effects.

"The One Thing" In Financial Life

My Little Secret

I have pasted 2 images on my desk (and many other places in the office) & I haven’t changed these in the last 5 years – when we renovated our office & I don’t think that I will change them till I retire. 🙂

  1. Investor Behaviour Cheat Sheet

When it comes to investment (other than basic investment principles) I focus on Investor Behaviour – I keep saying “the investment is not a Numbers Game… it’s a Mind Game”.

This cheat sheet helps me to avoid the herd mentality & taking contrarian views. This works as a guiding lighthouse not only in the case of equities but all asset classes or investments.

Investor Behavior

Normally we prefer to stick to static (simple) asset allocation & rebalancing but when investor behaviour is at the extreme we prefer to take some contrarian calls (tactical asset allocation) with a limited amount. Let’s be frank Identifying “extreme” is not easy so one can never catch exact top & bottom.

Click to Tweet

More important is this helps in avoiding big mistakes even if we are not able to take advantage.

You can simply understand above cheat sheet by reading this famous quote of Sir John Templeton “Bull markets are born on pessimism, grown on skepticism, mature on optimism, and die on euphoria”. 

Bull market cycle

In the last 10 year, I have written almost 100 articles on Behaviour Finance on TFL.

If you would like to read more about Behaviour Finance in simple language – you can consider my new book “Modifying Investor Behavior” – also available on kindle.

2. “The One Thing” is the Financial Planning Process

Investment is the heart of financial planning but that’s not “the one thing” that people should focus on in their financial life.

My friend Ashish keeps repeating

“Investment Return is a wonderful by-product but a very poor point-of-focus. 

When you make Goals as the main reason for investments and work to achieve that, Returns come as a very natural by-product.

But those who do other way round and make Returns their priority, don’t achieve Goals nor Returns.”

Bw he is also our Financial Planning client 😉

Below is the second secret image that I am revealing today.

“The One  Thing” that can make everything else easier or unnecessary in Financial Life is the “Financial Planning PROCESS”.

Financial Planning Goals

In 2019 we are completing our 10th year in the practice & we have followed the same process with all our clients.

You can also read my evergreen “Financial Life Planning” book.

I will love to read your one thing related to your financial or personal life – please add in the comment section 🙂

Gilt Funds – Should I Invest?

Hemant Beniwal
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6
Gilt Funds – Should I Invest?

In recent days RBI Surprisingly Cuts down Interest Rate by 35 Bps. Now, how this decision will impact your portfolio will be the most common question that comes across when you already have Debt fund added to the current portfolio.

In this article, we are majorly focusing on Gilt funds, how they will going to be impacted by such decisions,s and of course if they could be best fitted to your portfolio or not.

I have also shared my own investment in the gilt fund to explain how interest rates impact the performance of such funds.

Gilt Funds - Should I Invest?

Must Read- Debt Mutual Fund Risk – are you confused?

What Are Gilt Funds?

RBI lends money to the government for development purposes. For this, the RBI issues government securities having a specific tenure. Gilt funds (or even banks) subscribe to these government securities. When the tenure is over, the government returns the money in exchange for the securities.

From an investor perspective, Gilt funds are mutual fund wherein they can buy, sell and invest in the government of India securities. They offer reasonable returns and are low-risk investments – no credit risk but interest rate risk is there. You usually need an investment horizon of 3-5 years.

The returns are dependent on interest rates. Changes in interest rates affect the price of bonds as bond prices and interest rates are inversely related.

Gilt Funds - Should I Invest? Click to Tweet

What About Performance and Risk?

There are no guaranteed returns but the last year has seen gilt funds perform very well as there were multiple interest rate cuts.

There is an interest rate risk for gilt funds. When interest rates rise, the price of the Government securities will fall which means the fund will lose value. There is not much of credit risk or liquidity risk as the securities are backed by the government.

Gilt Fund Performance – 5 Years

Except 2007 & 2009 fund have done decently.

You may not believe that when I started my career in the investment field in 2003 – 3-5 years returns from few gilt funds were above 20-25% CAGR. That’s huge.

As equity markets were down after the IT bubble burst these funds were selling like hot cake. But the next 3-year performance of gilt funds was pathetic – that you can see in the next graph.

Gilt Funds India

Must Check- How Should YOU view Investment Risk?

3 Year Performance

In 3 years there is a lot of volatility in gilt funds – 60% plus returns in 2002 to just 10% in 2006 or meagre 5% in 2011.

should i invest in gilt fundsHow Are They Different from Debt Funds?

Most Debt Funds invest in securities issued by the Government and Companies whereas gilt funds invest only in Government Debt Securities. Debt Funds is influenced by interest rates, liquidity, and credit risk whereas gilt funds are influenced mainly by interest rates. If you are an investor who prefers the lowest credit risk, gilt funds are ideal for you.

How Are They Different From Equity Funds?

There’s no comparison as such but someone asked me this recently…

Equity funds invest mainly in equity and related instruments. The potential for more returns is in equity funds as compared to gilt funds. But gilt funds are less risky as compared to equity funds. If you are an investor who prefers capital protection to higher returns, gilt funds are a better option.

Read:- Types of Mutual Funds in India.

What Are Some Gilt Funds Currently Active In The Market?

Here are details on some of the Gilt Funds in the market (Aug 2019) –

How Are They Different from Debt Funds

Should I Invest in Gilt Funds Now?

The yield on Government Securities has come down. But as interest rates have been going down, the value of gilt fund has been increasing as the price of the securities went up.

Let me explain with my own example 🙂

In Sep 2018 10 years Gsec yield hit 8% (right now it’s around 6.5%), which was quite high in the comparison of global interest rates. The Indian economy was not in good shape. The first weapon that is tried to improve the economy by any government or central bank is reduced interest rates. So it was on cards.

Invest in Gilt Funds

Must Check – 8 Most Important Mutual Fund Questions

If interest rates are expected to go down it’s better to invest in long-term maturities – the best investment that was available was Reliance Nivesh Lakshay with 25 years of maturity.

On the 3rd of September 2018, I Invested Rs 2 lakh. After 6 months on 31st March 2019 value was Rs 2.22 Lakh & right now after 1 year, it’s approx Rs 2.46 Lakh.

Gilt Statement

So I got 23% returns in less than 1 year. I used this to show the impact of interest rate on gilt funds. Take my example with a pinch of salt – if it was negative 10%, I would never have shared that 😉

Gilt Fund Returns

My suggestion to you.

If you are looking for reasonable returns with less credit risk, you can consider gilt funds for the long term.

But don’t expect high returns in the short term. If you are a layman investor, it will not be in your best interest to try to time the entry and exit based on interest rate changes.

It is good to allocate some part of the portfolio in fund with medium-term government securities where the fund managers can manage the fund such that the interest rate changes work in the fund’s favor.

If you have any questions related to gilt funds or income funds – add that in the comment section.

Structured Products – Alternative Avenue of Investment

Hemant Beniwal
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7
Structured Products – Alternative Avenue of Investment

Looking at the current market scenario, most people deal with high volatility and uncertainty, and many hesitate to invest even if they may be willing to do so for fear of losing their capital.

Structured products have been a successful avenue for many under such circumstances, providing not only on an efficient mode of investment but also have tailored capital protection option.

Structured Products – Alternative Avenue of Investment

Must Read – Asset Allocation – Formula for Investment success.

What are Structured Products?

  • Structured products are customized investment products to create wealth by investing in the market
  • They are market-linked debentures where a major portion of the money is invested in fixed income instruments and the remaining part is invested in derivatives of another underlying asset such as NIFTY, equities, or currency.
  • For example, if you invest Rs. 1000 in such a product. About Rs.800 will be invested in debt instruments. The remaining Rs. 200 will be invested in NIFTY derivatives or other such products. The return on Rs. 800 will be around 6%-8% but will remain mostly fixed. The return on the other Rs. 200 will depend on the performance of the underlying assets.
  • Most structured products invest in such a manner that the principal is protected. (but the risk in Debt part should be understood)
  • Protecting the principal amount. Some offer only capital appreciation.
  • The product design and investment strategy are structured such that the product is able to meet the desired goals.

Read – Low-Risk High Return – is it possible?

Who issues Structured Products?

Nonbanking financial companies (NBFC) issue such products. Anand Rathi, BNP Paribas, Edelweiss Finance & Investment Limited, and other such companies offer structured products.

What is the portfolio of a structured product?

It mainly comprises of fixed income products and derivative products. Many products on offer in India invest in NIFTY and NIFTY-based instruments.

       Must read-What are alternative investment funds (AIFs)

How much returns can be expected in them?

No company offers guaranteed returns as they are based on the performance of the underlying assets. The returns can lie between 0%-20% CAGR (ya ZERO if it’s capital protection) but can be more depending on performance and scenario.

Structured Products – Alternative Avenue of Investment Click to Tweet

What will be the tax liability of the investor?

The tax liability will be similar to any listed product. The sale of listed security held for 12 months or more attracts long-term capital gains tax. (normally the company buy the instrument before maturity for this) Some of the products pay an interest rate and that will be taxed as per the income tax slab applicable to the investor.

Check – 15 Types of Risk

What risks should an investor consider while investing in them?

The risk depends on the product structure and its features You can face

  • Liquidity risk as though these products are listed, they are not traded actively
  • Credit risk – If the issuer defaults on payment, you lose your investment and notional gains. (NBFC are right now famous for wrong reasons)
  • Market risk – If the product is invested in the market or other underlying assets that have price fluctuations, the returns on that extent of the investment depend on the performance of the underlying assets.
  • Event risks – National and foreign events such as elections, disasters, economic performance can affect the returns.
  • High Investment costs – The costs of the investment is sometimes unclear which can lead to high costs.
Read – How should you view your Investment Risk?

What are the criteria for investing in structured products?

  • There is usually a duration of 3 years for the investment to get the true benefits.
  • The investment amount is usually around Rs. 25,00,000.

Check- Aligning Investing with Life Goals

Can you give some examples of structured products available in the market?

1) Edelweiss offers a product called ‘All-Weather Equity’ which is a Market linked debenture based on the NIFTY. Key features are –

  • 50% absolute return guaranteed on the face value of the debenture
  • Protection of the face value of the debenture.
  • Listed on the BSE WDM segment
  • Investment duration – 41 months
  • The average returns in the last 6 years since inception have been 47%.

2) Anand Rathi offers debt-structured products and equity structured products.

  • There is a max coupon rate targetted for each product (debt and equity) based on the NIFTY level provided the investor remains invested for the entire duration.
  • The duration of investment is around three years.
  • For example, a product that Anand Rathi offers is the Protected Call wherein the entire investment is done in fixed instruments and NIFTY put options are sold and the money received from selling the put options is again invested in NIFTY. Then depending on NIFTY performance, the returns vary. If NIFTY performs as expected, returns are the fixed coupon rate and if NIFTY does not perform as expected, there will be a loss on the put options but the investment in fixed instruments is as-is and the returns are protected.
Also Read: Portfolio Management Services in India

Who should invest in structured products?

These products cater to HNIs as the ticket size is big. People who are able to invest such a big sum for the long term can take advantage of these products. It is suitable for investors who seek alternate investment products. Investors can participate in the derivative market using the professional expertise of wealth managers as the derivative market is complex.

How is it different from an equity mutual fund or a debt mutual fund?

Equity mutual funds usually invest a majority of the investment in equity and equity-based products. The risk is higher as there are not any capital protection guarantees. Debt mutual funds invest in debt instruments and the returns are limited.

Structured products allow you to take advantage of debt instruments and derivative markets that allow for some protection and a lot of upsides. They offer alternate avenues of investment for those who have already have allocated the requisite amount in equity and debt mutual funds in their portfolio.

Structured products offer new avenues of investment for the retail investor who has a high net worth. It is worthwhile to understand these products and invest once you have understood them clearly and think that it will diversify your portfolio and has the potential to improve your portfolio returns. At the same time, be aware of the risks and costs involved.

It is important to invest in a variety of instruments for short-term as well as long-term goals so that you are financially secure whether you have a regular source of income or not.

Don’t only focus on returns also check the risk that is involved.

If you have ever invested in Structured Product – please share your experience in the comment section.

2018 Was Good For The Equity Investors. Will 2019 be better?

Hemant Beniwal
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6
2018 Was Good For The Equity Investors. Will 2019 be better?

You may be surprised by the heading because it doesn’t match current market sentiments or your portfolio performance.

Anyways if you are worried about your portfolio, this post may give you some relief.

2018 Was Good For The Equity Investors. Will 2019 be better?

Returns in 2018 and 2019

Why so hue & cry when we are so close to an all-time high?

We can clearly see that only large caps have done a bit better and the rest of the market is down where most of investors money is if they follow the portfolio construction process. (just to add more than 90% stocks are negative in the last 18 months & out of that 60% of the stocks are down by more than 50%)

We can blame many people for this, even government (current or past), companies but this is a normal thing in the economy and equity markets. Hmmm..

2018 Was Good For The Equity Investors. Will 2019 be better? Click to Tweet

Quiz time – Choose One

Ok, let me ask you a question, in below image which situation will generate better returns. Let’s assume the horizon is 5 years. (bw Investment Horizon plays a very important role in returns )

Sequence of returns

A. If you are like most people you will think that this is best as we are going higher & higher year on year. It can be good for someone who is retired – other than a constant increase in the portfolio, he is not feeling any pain. But is it possible?

B. Can be good for a person who is a good timer or sitting on the fence with huge cash & can add when the market goes down. 99% of the investors are not in this category – it’s not only about having liquidity but guts & willingness to invest when everything is in red. In such a huge fall it’s tough to choose its risk or opportunity.

C. This looks quite similar to normal markets or maybe the most practical scenario. Few years up, few years down but moving upwards in the long term. I think regular savers should be happy with this.

D. This is the best that can happen with an accumulator – gives you a lot of opportunities to buy units & shares – that are valued higher after a few years. We have seen this happening if someone started in 2011 or 12. But again this scenario is not very practical because markets don’t like to stand at one place for long & even investors lose interest & start looking for alternatives.

No Pain, No Gain

We should be mentally prepared for all the above situations & even worse – we have seen all these scenarios in the past. Remember no pain, no gain. If you don’t believe that you can handle even these kinds of outcomes you should not invest in equity or start from basics that what is equity. 

Why 2018 was good for Equity Investors

We tell all your young clients that you should be happy when markets are going down & even pray for it. 2018 was good years for investors as they were able to add more units – 2019 can be better if equity markets fall by another 15-20%.

In 2015 we wrote this to our clients

“These days it’s a common question “Why equity markets are rising?” The economy is not in great shape, companies are not making much profit, global economies are also struggling but equity markets are rising – be frank we have no clue why markets are rising. We pray every day that it should fall & you get more units next month but maybe our prayers are falling short in comparison to bulls 🙂 “

This time it’s different

We normally keep hearing these words – in a bull market when everything looks perfect or a bear market when everyone is talking about doomsday.

I wrote a detailed post on this at the end of 2017 – when everyone was bullish about the market. I also touched a sensitive point – SIP Myth. Must read This time it’s different – 4 most dangerous words in the investment world.

But I Read…

The Internet is not making us smart – in simple words, more information means more confusion when it comes to investments.

Even I was looking at some stuff on the Moneycontrol & headlines caught my attention. Mayhem!! doomsday is coming.

Screenshot – is there any need to add that

This is not limited to one website. All pink papers are red at this time & even idiot box is playing havoc.

“Dirty Politics, Corruption, GDP, Inflation, Fuel prices, Current Account Deficit, ISIS & what not” Oh by mistake I added 2013 list.

Updated List “Credit Crisis, NBFC, GDP, Tax, Iran, Jobs & someone said everything is so gloomy that sometimes I feel to leave India & settle abroad.”

These are enough to make anyone insane if he is having significant exposure to equities but this is how it works. Do you remember any time in history when markets were down & news was good?

What Should I do now?

Only one suggestion – avoid news (including twitter) – keep away from too much news

Napoleon’s definition of a military genius is the person “who can do the average thing when everyone else around him is losing his mind.” 

Same applies to an investor. Stick to your financial plan & investment strategy. If your panic level is high, talk to your advisor or read a good book.

Let me sell you my new book “Modifying Investor Behaviour – It’s not numbers game, it’s mind game”. Right now for a limited period, it’s available for Rs 69 on Kindle. (BTW you don’t require a Kindle device to read this book)

After this article – things are not going to improve tomorrow & you should feel happy about that.

In case if you are retired – you should remember that corrections are healthy for equity markets. And remember this quote from Nick Murray…

The-world-does-not-end

Feel free to add your views & questions in the comment section.

National Pension Scheme (NPS) – Should I invest Now?

Hemant Beniwal
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701
National Pension Scheme (NPS) – Should I invest Now?

NPS or the National Pension Scheme was launched in India on May 1, 2009. It is a scheme which enhances social security in our country and its aim is to provide social security after retirement.

Before the launch, in India, we had a Defined Benefit Plan. As the name suggests one would get a certain pension fixed for the whole of his life. This means the post-retirement proceeds were fixed and if there is a shortfall in this corpus, the Government would make good.

The NPS is a Defined Contribution Plan, where the returns would not be fixed. But now NPS is a defined contribution plan so that you will only get what you have contributed & return that fund manager generated on it.

National Pension Scheme (NPS) - Should I invest Now?

Read – What is Gratuity

In his election speech in 1935, Franklin Delano Roosevelt said: “it is the more obligation to honor the right of the citizen to live with dignity even in the retired life”. When it comes to a pension or social security, our eyes turn to the Government.

National Pension Scheme (NPS) - Should I invest Now? Click to Tweet

In India also, the charm of being a government servant is the Pension that you get in your retirement years. So to reduce the burden on its expenses the NPS was introduced by the exchequer. Around 8-10 Crore investors are estimated to be eligible to join this scheme.

Regulator

Pension Fund Regulatory and Development Authority (PFRDA) is the regulator for the NPS. PFRDA was established by the Government of India on 23 August 2003 to promote old age income security by establishing, developing and regulating pension funds.

Must Read – LIC Jeevan Akshay VI

Applicability

All new entrants to Central Government services (other than Armed Forces) after Jan 1, 2004, would compulsorily join this scheme. All Indian citizens, including NRI, aged 18 to 60 can voluntary join the scheme. The exit age will be 60 years.

Contribution Requirements

A minimum contribution of Rs. 1000 Would be compulsory per year to keep the account active. There is no maximum limit on your NPS Tier 1 contribution but you can avail tax benefits of Rs. 200000 only. The minimum initial contribution to the NPS Tier 1 account is Rs. 500.

Structure & Investment Categories

Under NPS, each subscriber would be allotted a unique 16 digit Permanent Retirement Account Number (PRAN). This number would be portable. The records of transactions and investors would be maintained by a central record-keeping agency (CRA). At present, NSDL is the CRA and in the future, the number of CRA would be increased. The subscriber has an option to invest with seven Pension Fund Managers (PFM). He also has the option to choose any one or multiple PFM to manage his contribution. these PFM will have 4 Kinds of funds categorized as A for Alternative, E for Equity fund, G for fund investing in Government Securities and C for Fixed income securities other than Government Securities.

NPS Auto Choice – investors who don’t want to get into selecting how much to invest in which category can go for Auto Choice. It means that based on your age your money will be distributed in various categories. If you are young more exposure to equities – as your age will increase & risk capacity will come down automatically system will reduce exposure to equity & increase in Debt.

Must Read – Saving’s not enough Invest Your Money

Subscription types

To apply for the National pension scheme India, there are two types of accounts:

Non – Withdrawable account: The Tire 1 account is the basic NPS account that is non -withdrawable till retirement on in the case of the death of the subscriber. In this type of account, the total corpus at the retirement age is split, whereby a minimum of 40 percent of the final corpus has to be compulsorily used to buy an annuity while the subscriber is free to withdraw the remaining 60 percent as a lump sum or in installments.

Withdraw-able Account: A tier 2 account is available to only who is an existing subscriber of the tier 1 account. The unique selling point of the tier 2 account is that money contributed into this account can be freely withdrawn as and when the subscriber wishes except for the minimum balance that needs to be maintained at the end of each financial year.

Investment Charges

The NPS levies an investment charge of .01% of the asset under management. Initial charges of account opening would be around Rs 350. These charges are bound to come once the investor base increases.

Must Read: The 3 Stages of Retirement

Tax on NPS

The contribution under the Tier I account would be Rs. 150000 under the Sec 80C and Rs. 50000 under 80CCD(1b) of the Income Tax.

This is a positive step for investors as a higher amount can be deducted to compute taxable income. If you are in the higher tax bracket, you should consider investing as the outgoing tax amount can be reduced.

NPS manages to win EEE(exempt – exempt – exempt but not 100%) system that means at the time of maturity 60% of the accumulated corpus can be withdrawn as a lump sum(tax-free) and the remaining 40% needs to go into the purchase of an annuity plan. The annuity income that you earn from the plan will be taxable at the income tax slab rate of your income.

Must Check – Penny wise consumer – Pound foolish Investor

The Pension Fund Managers

At present, there are eight PFMs. These are UTI, Birla Sunlife, SBI, LIC, Kotak, Reliance Capital, HDFC and ICICI Prudential.

The returns are not guaranteed and as per your fund selection and performance of the Fund Manager. Below are some historical performances as of 13th July 2019.

NPS

Also, Read 8 Facts About Retirement Planning you May not have known

How can I apply for the NPS?

The NPS scheme is offered through 23 point-of – Acceptance or POS. The major are SEBI and its 7 associated banks, ICICI Bank, IDBI Bank, OBC, Allahabad Bank, CAMS, etc. Not all the branches of these POS offer the information and services for NPS. You can check the website of the particular POS or call their toll-free number to get information about the availability of this scheme. Also a word of caution: Few cases have been registered, where investor approached for NPS but was offered ULIP as the retirement solution product. Please read the offer document of NPS to get the finest details.

Should I Invest in NPS Now?

I am still not fully convinced with the idea of the compulsory 40% annuity as it’s a very complex thing & very limited options are present in India. Hopefully, 10-15 years from now when people who first enrolled for NPS start entering their retirement age – annuity will be a big market & better choices are available for retirees.

Halfheartedly I will suggest that people who are in the higher tax bracket can consider investing Rs 50000 every year in the National Pension Scheme.

If you have any questions on NPS India – feel free to add them in the comment section.

What is Reverse Mortgage and How Does it Work ?

Hemant Beniwal
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3
What is Reverse Mortgage and How Does it Work ?

While planning for Retirement one should keep in mind that what are the options available to an investor at the age of Retirement for the regular inflows or annuity. That might be Reverse Mortgage, Insurance Plans, SWP, etc.

Let’s check what is Reverse Mortgage? the options available, their advantages & disadvantages in this post.

Reverse Mortgage

Must read-SBI maxgain home loan

What is a reverse mortgage?

In a home loan scheme, you take a loan from the bank, buy a house with that loan and pay back the loan along with interest to the bank.

In the case of a reverse mortgage scheme, the homeowner receives money in installments equivalent to the value of the loan.

The bank will have the right to sell the property after the borrower passes away to recover the loan If the sale proceeds are in excess of the sum due to the bank, the excess is returned to the legal heirs. The borrower also has the option to repay the loan earlier as well.

A reverse mortgage allows a person to get a regular cash flow to take care of financial needs. The money can be received in a lump sum and/or regular payouts.

What are the options available for a person applying for a reverse mortgage?

There are two options available —Reverse Mortgage Loan(RML) and Reverse Mortgage Loan-enabled Annuity (RMLeA).

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In the case of RML, you will either get a lump sum amount or amount in installments, depending on the frequency selected.

In the case of RMLeA, the loan amount is given to an insurance company. The insurance company works with the corpus such that it gives you an annuity for the rest of your life. This is like a pension.

Ask Yourself – Is 1 Crore Enough for Retirement?

Who can choose to go for a reverse mortgage?

Senior citizens who own a house can opt to go for a reverse mortgage. The house should have been bought by the borrower. It should not be inherited property. Senior citizens may not have a regular flow of income and a reverse mortgage helps them to take care of living expenses.

How can I avail of a reverse mortgage?

The following conditions are required to be satisfied for a person to avail of a reverse mortgage –

  • The person should be a senior citizen (age>60 years).
  • The person should own a residential house.
  • If the person is taking the loan jointly with the spouse, the spouse should be above 55 years old.
  • The house can be owned individually by the person wanting the reverse mortgage or jointly with the spouse.
  • You can apply for it through a bank or a financial institution. Fill in the application form and submit a copy of the PAN card and registered will, details of the property, and a list of legal heirs along with the form to the bank. The bank will assess the property and decide on the loan to be given. It usually gives loans up to 40%-60% of the value of the property. The bank will charge some fees related to the processing of the loan.
  • SBI, LIC, PNB, Indian Bank, Andhra Bank, Dewan Housing Finance Limited are some of the organizations that offer a reverse mortgage.

Must Read:- Best Investment Options for Senior Citizens in India

What are the tax implications of a reverse mortgage?

There are no tax implications in the case of a reverse mortgage. The amount received as a lump sum or as annuities is not liable to tax payments. If the property is sold before the reverse mortgage comes to an end, the relevant tax for capital gains is applicable.

reverse mortgage

What are the advantages and disadvantages of a reverse mortgage?

A reverse Mortgage looks like an attractive option. It is a good source of income for retirees. It uses the existing property to generate income.

The bank can recover the loan only after the death of the borrower or when the property is sold. There is no fixed tenure for the repayment of a loan.

Reverse Mortgages are not popular in India. Many people have a sentimental attachment to their property and do not want to sell it off for a regular income stream. They want to pass it on to their heirs.

The loan value given by banks for reverse mortgages is low. The owner has to ensure the upkeep of the property and pay all taxes and other dues related to the property. If this is not done, there can be foreclosure of loan or to prove that he/she can make their homeowner’s insurance, tax, and upkeep payments. If failed in keeping the taxes current and paying the insurance premium on time will result in foreclosure of the loan.

The product is not easy to understand nor well publicized. People are unaware of its features and stay away from it.

Read:- 5 Steps for Happy Retirement

Should I go for a reverse mortgage?

A Reverse Mortgage is a great option for people who want to live in their house and at the same time earn an income but are not interested in giving the house to their heirs. It is good for people who have valuable property and not enough investments or savings to generate regular income for themselves.

But the documentation is a tedious process. There is not enough knowledge and information about a reverse mortgage in India. If as a retiree, you have a source of income but it falls a little short of what is needed, you can go for portfolio review or go for more tax-efficient investment products. The processing fees should be looked at and checked if it is not burning a hole in your pocket. If you have a big house, you might want to sell the property when the property market is good and you can invest the money in different investment products to get the most optimum returns. It may not be necessary that the bank fetches a good price for your property after your death. You can move into a smaller house where maintenance-related efforts and costs may be lower and will work to your advantage.

Consider these factors before you make the final decision on a reverse mortgage.

After retirement, one may not have a regular income channel. But expenses will continue to be there. Some expenses might increase and some might decrease.  It is important to have an appropriate strategy to get a regular income during retirement.  It is important to manage money smartly so that one does not have financial woes in the retirement years. If one invests an appropriate amount as per the financial plan in MFs when he/she has a regular income, a Reverse mortgage can be set up during the retirement years for regular income.

If you have any questions regarding what is Reverse Mortgage – feel free to ask in the comment section.

Quant Funds – Are They Really Smart?

Hemant Beniwal
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5
Quant Funds – Are They Really Smart?

In the age of technology can computers replace a human fund manager? That’s the new debate happening in the investment world. Can ETFs & Quant Funds be the next big thing in India?

Let’s check what are quant funds, their advantages & disadvantages are in this post.

What are Quant Funds?

A quant fund is a fund where the decisions regarding investment, stocks and securities selection, and buy and sell transactions are done based on certain models. The decisions are based on statistical or mathematical models. Models are built using software and these are applied to the quant fund.

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In an actively managed fund, a fund manager makes the key decisions but in a quant fund, these decisions are automated.

But a quant fund is not like an index fund or ETF where the fund manager can be hands off. In many cases, the fund manager designs the models which are then translated into automated programs. The fund manager keeps an eye on the performance of the model and tweaks it as per market conditions and performance of the fund.

Why?

Quant funds are managed using customized software models. Therefore they are managed by cold logic and hard facts. There is not much room for emotions and biases.

These are the advantages that quant funds supposedly possess –

  • There is less scope for human error as mathematical models are responsible for the investments, transactions and portfolio selection.
  • The strategy and decisions are consistent with the objectives of the fund.
  • There is no room for biases such as the preference for certain stocks or loss aversion. Emotions tend to cloud judgment. This can affect the profitability of the fund. Quant funds are not subject to human emotions.
  • The investment process is smooth.
  • The investments will be done in a systematic and disciplined way. There won’t be any instances of impulse buying or random reactionary decisions in investments due to volatility in the market or political decisions, market conditions or sentiments.

Must Read – Mutual Fund Vs Direct Equity

How are they faring?

How are quant funds performing? The best way is to measure their performance against actively managed funds –

Here is a comparison of the regular quant fund and non-quant funds. Quant Active Fund and Reliance Quant Fund are quant funds –

Name Quant Active Fund – Growth- (Escorts) Reliance Quant Fund – Growth HDFC Equity Fund – Growth Aditya Birla Sun Life Equity Fund – Growth
NAV  ₹ 182.4792 ₹ 25.971 ₹ 687.905 ₹ 724.95
Equity Allocation 91.14% 98.68% 99.59% 97.31%
6 Months Return 3.94% 6.38% 11.24% 4.17%
1 Year Return 3.02% 2.30% 12.66% 2.12%
3 Years Return 12.14% 10.87% 14.94% 13.74%
Expense Ratio 2.48% 0.93% 1.79% 1.93%

As on June 14, 2019

Why Should I Consider?

The main reason to consider quant funds is that the decisions are objective. There is no place for subjectivity or human bias. However experienced or well-qualified the fund managers be, there is always room for temptation and errors. Some fund managers might change their position in volatile markets. Others may read economic factors differently based on their biases.

The expense ratio might be lesser for quant funds in the long run as it is more passive as compared to funds managed actively by a fund manager, though the Quant Active Fund of Escort AMC has a high expense ratio.

There are logical checks programmed in the quant funds on the amount allocated to stocks or sectors. There might be checks on the amount bought and sold as well. These ensure optimum decision-making.

Technological development has made it possible to use large sets of data, broad sets of data, and advanced analytics which help in developing more accurate algorithms for quant funds reducing the scope for errors, and improving returns.

Disadvantage of Quant Funds 

They are ultimately programmed by humans and so they are as effective as the team’s capability to build the models.

They rely on historical data and we all know that past returns are no guarantee for future returns.

They have to be built in a manner that they are easily adaptable to new economic conditions or changing markets else they will not give the best returns.

You can also read – Mutual Fund Jargons

CONCLUSION

S&P BSE 200 TRI has an annualized return of 1.91% in 1 year and 13.74% in 3 years. None of the Quant have been able to match that.

Evidence has shown that these funds may not always outperform the market.

As an investor, one should not invest in quant funds just because it is based on technology and human bias is limited. An investor should look at the investment portfolio of the fund, expenses involved, and how it fits in his or her investment portfolio.

If you have any questions related to Quant Funds – you can add them in the comment section.

How Should You view Investment Risk?

Hemant Beniwal
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9
How Should You view Investment Risk?

Investment risk is not totally straightforward. There is an inherent risk in financial markets, but what happens outside the markets in your everyday life can impact how you view risk too.

Your professional stability, family matters, and wellbeing, among different variables, will affect your resistance for risk. When contemplating your Financial Plan, you ought to comprehend not just the risk attributes of different investments and financial markets, but the risks in your personal life as well.

Investment Risk

Check – Low-Risk High Return – Is it possible?

Investment Risk & Return

The profits you receive on your investments are always related to risk. If you take a little risks then you should expect little return and large risk-taking “should” be rewarded with large returns. (really – must check the chart in next part)

Views on risk can vary. Some see risk as simply losing money and others see risk as volatility. Volatility as a financial measure refers to the doubt about the size of the changes in a security or asset’s value.

A higher volatility means that values can potentially be spread out over a larger range and the price of the security can change dramatically over a short time period either positively or negatively.

A lower volatility means that a security’s value does not swing dramatically, but changes at a steadier pace. The measure of volatility requires a period of time, be it minutes, days, weeks, or years. In general, the longer the time period, the lower the level of volatility.

Read – 5 Things you should know about Risk & Your investments

An Eye-Opening Risk Chart

How many times you have seen the below graph which gives the impression that “riskier assets produce higher returns”. But if risky investments could be counted on to produce high returns, they wouldn’t be risky. 🙂

what is Investment Risk

With higher risks come higher rewards. That’s one of the most basic rules of investing.

However, it’s also one of the most misinterpreted rules.

“We hear it all the time: ‘Riskier investments produce higher returns‘ and ‘If you want to make more money, take more risks,'” Howard Marks. “Both of these formulations are terrible.”

Marks believes investors deserve a more complete explanation of the risk-return relationship.

“There’s another, better way to describe this relationship: ‘Investments that seem riskier have to appear likely to deliver higher returns, or else people won’t make them,'” Marks writes. “This makes perfect sense. If the market is rational, the price of a seemingly risky asset will be set low enough that the reward for holding it seems adequate to compensate for the risk present. But note the word “appear.” We’re talking about investors’ opinions regarding the future returns, not facts. Risky investments are – by definition – far from certain to deliver on their promise of high returns.”

Howard Marks shared a brilliant risk-return chart – See below.

Investment Risk & Return

As you move to the right, increasing the risk:

  • the expected return increases (as with the traditional graphic),
  • the range of possible outcomes becomes wider,
  • and the less-good outcomes become worse and ultimately become negative.

The straight line going from the bottom right to the upper left is how most people envision the risks-return dynamic.

However, it’s the curves and vertical lines at each point that every investor better be comfortable with. While the point represents what is expected to happen, the curve represents the range of outcomes the will actually happen.

“This is the essence of investment risk,” Marks writes. “Riskier investments are ones where the investor is less secure regarding the eventual outcome and faces the possibility of faring worse than those who stick to safer investments, and even of losing money. These investments are undertaken because the expected return is higher. But things may happen other than that which is hoped for. Some of the possibilities are superior to the expected return, but others are decidedly unattractive.”

A brilliant way to explain the relationship between risk & return.

Equity Risk Vs Debt Risk 

Of the two major asset classes, equities for which returns are dependent on dividends and earnings growth, have a higher long-term expected return because there is greater volatility to these returns.

Fixed income (debt/bonds) which pay interest periodically and their principal at maturity provide lower returns and are generally less volatile than equities.

Must Read – Risks in Mutual Funds that you may not know

Your Risk Profile

Risk and risk tolerance are tough to interpret and almost impossible to quantify.

Although tools are available for risks profiling – when trying to pin down your risk tolerance, you should think  about the following concepts:

  • People tend to be more optimistic about stocks after the market goes up and more pessimistic after the market goes down.
  • Too much weight is given to recent market information and too little weight is given to long-term fundamentals.
  • Overconfidence leads to excessive trading and ultimately underperformance.
  • Your actual tolerance for risk is typically less than your stated tolerance for risk.
  • What is the maximum value your current portfolio has lost in the past? Can you tolerate such a loss when your portfolio will be 5 times in size? 

Volatility will scare you

Volatility can cause you to abandon a well-thought-out investment plan at very inopportune times. When considering your own risk tolerance, you should be aware of how widely investment performance can vary even within a single year.

Consider 2008, the year when large-cap stocks fell over 50% within a few months. Mid-caps were down by 70-80% – even Mutual Funds were down in the same range.

In gauging your risk tolerance, you should reflect on your feelings and actions during bear markets or think about how you would react during your current portfolio’s worst periods of past performance.

Check – Effect of holding period on your returns

Maximum Fall in a 70% equity & 30% debt portfolio in India between 1988 to 2018. (Check below table)

The above portfolio was rebalanced every year.

35% fall in a 70:30 portfolio means that equity was down by more than 50% in this period – assuming debt was generating a normal return in this period. Are you ready for this? 

Although staying with your Financial  Plan when it loses money can be extremely frustrating at times, you can’t predict the sudden shifts in market returns.

Missing out on large market recoveries or even a few days of gains can severely hurt the returns of your portfolio.

Hope you got a new perspective about risk. Please add your views & questions in the comment section.

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