Basics of Investment: A Beginner’s Guide
Personal finance & Investments
Posted by T.Gowda on 2024-09-02 17:54:13 |
Last Updated by T.Gowda on 2024-09-02 17:54:13
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Investing is a powerful tool that helps individuals grow their wealth, achieve financial independence, and secure their future. Understanding investment basics is crucial when saving for retirement, buying a home, or building a nest egg. This guide will walk you through the fundamentals of investing, the different investment options available, and key strategies to consider when starting your investment journey.
What is investment?
The money you earn is partly spent, and the rest is saved for meeting future expenses. Instead of keeping the savings idle, you may use them to get a return on them in the future. This is called investment.
Why should one invest?
• One needs to invest to:
• Earn a return on his/her idle resources.
• Generate a specified sum of money for a specific goal in life.
• Make a provision for an uncertain future.
One of the important reasons why one needs to invest wisely is to meet the Cost of Inflation.
Inflation is the rate at which the cost of living increases. The cost of living is simply what it costs to buy the goods and services you need to live. Inflation causes money to lose value because it will not buy the same amount of a good or service in the future as it does now or did in the past.
For example, if there was a 6 % inflation rate for the next 20 years, a meal of Rs.100/- today would cost Rs.321/- in 20 years. But at the rate of 4 % bank interest, you will not meet the cost of the meal at the end of 20 years. This is why it is important to consider inflation as a factor in any long-term investment strategy.
Remember to look at an investment’s ‘real’ rate of return, which is the return after inflation. The aim of investments should be to provide a return above the inflation rate to ensure that the investment does not decrease in value.
For example, if the annual inflation rate is 6%, then the investment will need to earn more than 6% to ensure it increases in value. If the after-tax return on your investment is less than the inflation rate, then your assets have actually decreased in value; that is, they won’t buy as much today as they did last year.
When to Start Investing?
The sooner one starts investing the better. By investing early you allow your investments more time to grow, whereby the concept of compounding increases your income, by accumulating the principal and the interest or dividend earned on it, year after year. The three golden rules for all investors are:
1. Invest Early
2. Invest Regularly
3. Invest for Long Term and not Short Term
These days, you can’t retire without using the returns from investments. You can’t count on
your pension to cover your expenses when you retire. It’s barely enough for people who are
receiving it now to have food, shelter and utilities. It is important to have your own financial plan.
There are many kinds of investments you can make that will make your life much easier down the road.
Portfolio of Age Relationship
Your age will help you determine what a good portfolio is:
Your Percentage Stock Market exposure should be = 100 – Your Age
What care should one take while investing?
Before making any investment, one must ensure to:
1. Obtain written documents explaining the investment.
2. Read and understand such documents.
3. Verify the legitimacy of the investment.
4. Find out the costs and benefits associated with the investment.
5. Assess the risk-return profile of the investment.
6. Know the liquidity and safety aspects of the investment.
7. Ascertain if it is appropriate for your specific goals.
8. Compare these details with other investment opportunities available.
9. Examine if it fits in with other investments you are considering or you have already made.
10. Deal only through an authorized intermediary.
11. Seek all clarifications about the intermediary and the investment.
12. Explore the options available to you if something were to go wrong, and then, if satisfied, then make the invest.
What are the various options available for investment?
One may invest in:
• Physical assets like Real Estate, Gold / Jewellery, Commodities etc. and/or
• Financial assets such as Fixed Deposits with banks, small saving instruments with post offices, insurance/ provident/ pension funds etc. or securities that are market-related like Shares, Bonds, Debentures etc.
What are the various Short-term financial options available for Investment?
Broadly speaking, savings bank accounts, money market / liquid funds and Fixed Deposits with banks may be considered short-term financial Investment options:
Savings Bank Account is often the first banking product people use, which offers low interest (3.0 % p.a.)
Money Market or Liquid Funds are a specialized form of mutual funds that invest in extremely short-term fixed-income instruments and thereby provide easy liquidity. Unlike most mutual funds, money market funds are primarily oriented towards protecting your capital and then aiming to maximise returns. Money market funds usually yield better returns than savings accounts, but lower than bank fixed deposits.
Fixed Deposits with Banks are also referred to as term deposits and the minimum investment period for bank FDs is 30 days. Fixed Deposits with banks are for investors with low-risk appetite and may be considered for 6-12 months investment period, as normally interest on less than 6 months bank FDs is likely to be lower than money market fund returns.
What are the various Long Term Financial Options available for Investment?
Post Office Savings:
Post Office Monthly Income Scheme is a low risk saving instrument, which can be availed through any post office. It provides an interest rate of 8 % per annum, which is paid monthly. The minimum amount which can be invested is, Rs.1,000/- and additional investment in multiples of 1,000/-. The maximum amount is Rs. 4,50,000/- (if Single) or Rs. 9,00,000/- (if held Jointly) during a year. It has a maturity period of 6 years. Premature withdrawal is permitted if a deposit is more than one year old. A deduction of 5 % is levied from the principal amount if withdrawn prematurely.
Public Provident Fund:
A long term savings instrument with a maturity of 15 years and interest payable at 7.1 % per annum compounded annually. A PPF account can be opened through a nationalized bank at any time during the year and is open all through the year for depositing money. Tax benefits can be availed for the amount invested and interest accrued is tax-free. A withdrawal is permissible every year from the seventh financial year of the date of opening of the account and the amount of withdrawal will be limited to 50 % of the balance at credit at the end of the 4th year immediately preceding the year in which the amount is withdrawn or at the end of the preceding year whichever is lower the amount of loan if any.
Company Fixed Deposits: These are short-term (six months) to medium-term (three to five
years) borrowings by companies at a fixed rate of interest which is payable quarterly, monthly, semi-annually or annually. They can also be cumulative fixed deposits where the entire principal along with the interest is paid at the end of the loan period. The rate of interest varies between 9-12% per annum for company FDs. The interest received is after the deduction of taxes.
Bonds:
It is a fixed-income (debt) instrument issued for a period of more than one year with the purpose of raising capital. The central or state government corporations and similar institutions sell bonds. A bond is generally a promise to repay the principal along with a fixed rate of interest on a specified date, called the Maturity Date. This is typically a safe bet and one that is a good investment for a first-time investor because there is little risk of losing your money.
Mutual Funds:
These are funds operated by an investment company, which raises money from the public and invests in a group of assets (shares, debentures etc.) in accordance with a stated set of objectives. It is a substitute for those who are unable to invest directly in equities or debt because of resource, time or knowledge constraints. Benefits include professional money management, buying in small amounts and diversification.
Mutual fund units are issued and redeemed by the Fund Management Company based on the fund’s net asset value (NAV), which is determined at the end of each trading session. NAV is calculated as the value of all the shares held by the fund, minus expenses, divided by the number of units issued. Mutual Funds are usually long-term investment vehicles though there are some categories of mutual funds, such as money market mutual funds which are short-term instruments.
Life Insurance:
Life Insurance policies are another kind of investment that is fairly popular. It is a way to ensure income for your family when you die. It allows you a sense of security and provides a valuable tax deduction.
Stocks: Stocks are a unique kind of investment because they allow you to take partial ownership in a company. Since these returns are potentially bigger, they have a history of being a wise way to invest your money.
Real Estate: Is a tangible kind of investment. It includes your land and anything permanently attached to your piece of property. This may include your home, rental properties, your company or empty pieces of land. Real estate is typically a smart investment and can make you a lot of money over time.
In conclusion, investing is not just about growing wealth; it\'s about creating a secure and fulfilling future. With knowledge, patience, and a strategic approach, you can navigate the investment landscape effectively and achieve your financial aspirations.
