To invest your money somewhere, you need to know what are the various options available. Money that you have is your asset and you need to put your money in different places so that they grow. These products where you put your money are grouped into various asset classes.
Each asset class has its own risks and returns. But you also need to take into account how liquid your asset is. If you need money immediately tomorrow, how easily and quickly you can take the money out. Lets now look at the various asset classes:
This is the most easiest to maintain. You just have all your money as cash with you in your house. This is the risk free, except for safety against burglars and inflation. We already saw in yesterday’s post about why its a bad idea to store your money under the mattress as you don’t earn any interest on the money you have in hand and it’s value also erodes slowly due to inflation.
You can have some money for your daily expenses and emergencies, but a better option is to have it in at least a savings account. Savings accounts in India gives a return on about 4-7% depending upon the bank and the amount you have. It is as liquid as having cash in your hand as you can withdraw anytime using the ATM card. It also earn some extra money as it lies sitting idle.
Debt is a better option than savings account as it can earn you a higher interest rate. When you lend money to someone (a bank or other institutions) they will have to pay you something extra for the money you give. There are various forms of debt like Fixed deposits, bonds, NCD (Non-Convertible Debt), etc.
This is the most common way people keep their money in banks. This is also safer as the bank takes care of lending money and collecting it from the borrowers. Also your investments in banks are insured upto Rs. 1 lakh.
Usually FDs earn anywhere from 7% – 10%, but it depends on the term you are investing it for. Usually the rates are a bit higher for senior citizens but it doesn’t matter to us right now. And do remember the rates also depend on the banks. There are some banks which don’t give more than 8.5-9% and there are some which give 10% or more.
About liquidity, you would be charged a slight penalty on the interest earned if you try to take out the money before your term finishes. But your invested amount won’t be affected in anyway.
Bonds and NCD
Bonds and NCDs are money that you lend to the government or companies. Government and some companies issue bonds which has ask for money from the public. This money would earn a slightly higher interest rate than fixed deposits. But remember as your returns increase your risks also increase. Usually you would earn anywhere between 10% – 12%.
Before you invest in bonds, you need to check for the quality of the company. If it is a bond issued by the government it is considered safe (especially if you have a developed or a growing economy and don’t have problems with the government). But as part of general public it is difficult to understand how good or bad a company is. So there are credit rating companies which rate these bonds during issue. This gives a good enough score about the company.
Generally bonds are preferred by people who need to know how much money they will earn and need a guarantee that they will get back the money. Amongst the public, there are only two kinds of people who fall in this category – old people who want to put in their retirement money or very rich people who want to earn an assured income from their money.
Gold and Silver
There are many people in India who like to invest in precious metals, especially Gold. The reason they prefer gold as an investment is the price of gold never decreases. But this is not true. History has shown that the price of gold doesn’t always increase. But Indians in general have very poor memory when it comes to gold as we have unreasonable love for the yellow metal.
But Gold should also be a part of your portfolio, because it is a good hedge against inflation. Meaning, the price of gold rises with inflation in the long run. It can’t beat inflation, but it rises along with inflation.
But investing in gold needs isn’t just buying a gold jewellery from your nearby shop. There are various efficient ways to invest in gold, which we will see sometime in the future posts. The safety of gold is dependant on how you invest and store it. Buying jewels and having them in your safe is not safe (pun not intended) and also it isn’t liquid enough.
There are however Gold ETFs and E-Gold which can be a valid investment and also safe and liquid enough.
Real Estate is a hugely popular form of investment, especially for urban Indians. Everyone would like to have their dream home. They usually take a home loan and buy an apartment. It is a good idea to buy a home even if it means taking a loan, but if you already have a own house to live in, it isn’t advisable to invest in another house.
People in India also have a unexplained liking for real estate, saying the prices of land can never go down. But historical prices has shown that they don’t rise with inflation as much as you would like it to and not every land you buy appreciates. If you bought a piece of land and a nuclear power station comes up nearby, your land value would decrease.
It is important to research well before investing in real estate, as it is immovable property and very hard to liquidate. Also people are invested both financially and emotionally into a house or land and wouldn’t easily sell it off.
Equity is also popularly called the Share Market or Stock Market. Lot of people don’t like to invest in equity markets as they would have lost huge amount of money once and some even compare it to gambling.
But equity is the only investment that can beat inflation, when invested over a long period. There are two kinds of people in the equity market: Traders and Investors. Traders put in money to buy shares of a company and sell it in a very short time frame, like in hours, days, weeks. They buy shares and sell it (or sell it first and buy it back) when they have earned a small profit. If they lose money they exit the trade and take in the loss.
The people who stay away from equity because they lost their money always come into the equity market to make a quick buck or two and when they encounter a loss immediately hate the market. Traders are doing a business, meaning they accept both profit and loss when it comes.
But we are investors, who want to make sure that we don’t lose our hard earned money. Equity markets are risky (riskiest of all the ones I mentioned above), but when invested smartly we can make sure that we don’t lose our money. But the first rule you should remember is to be in the equity market for the long run. Its not “invest now and earn double in a year” thing. If you buy shares of a company and within a year your money could potentially be wiped out entirely because of various reasons. That is the risk you have in equity, where your entire investment is gone.
When you invest in it for the looooong term, the risks are minimized and you end up with a nice profit which can be anywhere from a few extra lakhs to even multiple of crores (depending upon where you invest).
So where should you put all your money in?
It is very hard to give a single, unified answer to this question. It depends on various factors like your age, your salary and expenses, your risk profile, your retirement age, etc. Once you understand these various asset classes, I can help you to create a portfolio that is practically risk free and also earns a good return than most of your friends.