Your First Investments

We are fairly new into the year and soon it will be time that many of you readers will be fresh out of college and will start with new jobs. Some of you might even have been working for a while now. Better sooner than later to decide upon an investment regime which helps you build wealth in the long term, provides mental peace in the short term with some degree of cushion to fall back upon in bad times.  What better time to discuss as to how to start with your investments. It’s always a good time.

What I intend to do here is to help you understand what can be your flow of money once you receive that paycheck.

We will, in this article, read about some of the investment options available to you. These will be mentioned in increasing order of returns and hence the increasing order of risk as well. Meaning, the investment products which come ahead in the list have somewhat lesser returns yet, high degree of safety. While the suggested instruments lower in the list deliver higher returns but have a certain degree of risk associated with them.

Let’s get started. Our journey will be: Protection → Savings → Investments

Protection

First things first – Life Insurance

You just cannot start with any financial planning without securing your life and health first. And that of your family. Road accidents, health issues, environmental impact, our sometimes unhealthy habits are all working against us. One bad day any one of these might catch up with you. You have to have a life insurance on your name. Talk to any financial expert or an investment advisor, they will suggest you to go with something called the “Term Insurance”.

When you buy a “Term Insurance”, you yearly pay a very small amount to keep that policy going, up to a pre-decided tenure, or a certain age. At the end of this “term”, if you are alive, you get nothing. You should be happy about it because you are still alive.  But, god forbid, if you meet an unfortunate end, your “added beneficiary” (parents, spouse, children, etc) in the policy will be paid by the insurance company an amount equal to the Sum Assured of your policy.

My humble suggestion, whatever your yearly income might be, multiply it with 10, and take an insurance policy of that amount. Add your parents as beneficiary. When you get married add your spouse as well. As your income increases, your lifestyle grows, increase your sum assured as well. The earlier you start, lesser your premiums will be.

Health Insurance

Many of the organizations which you start working with do provide some kind of health insurance. In times of need they might not prove to be sufficient. Go out and hunt for a decent health insurance policy from any of the big insurance providers. This might feel like a task that “can be done later”, but again, as with any kind of insurance – earlier the better.

Also, if your organization provides for it, then add your parents as dependents in your policy and DO NOT REMOVE THEM in any given year. Once they are dropped from the policy, in most cases you won’t be able to add them back.

Even if health insurance is being provided by your organization, I would recommend to take one from open market, albeit for a smaller amount. Should you in future find yourself in a company which does not provide health insurance, or you are self-employed, then increase the sum assured of the policy purchased outside.

On a personal note, I got my mother operated for a knee replacement surgery last year. I didn’t pay a penny. Thanks to the health insurance. Recently my wife and I had a baby, again, didn’t pay a penny.

The process to acquire both the above mentioned insurances, is fairly simple. Start with them today.

Savings

Savings Account

This is the plain vanilla savings bank account at the neighborhood branch of a bank in which you receive your salary. Interest in these accounts vary from 3% to 7-7.5% depending on the bank and is calculated mostly on the “Average Monthly Balance”. Higher interest rates promised by certain newer banks are subject to certain “Terms and Conditions” which in most cases will deny you the higher promised returns.

One should just leave enough money in this account to help with immediate ATM withdrawals, monthly expenses, and Debit Card swipes. Leaving large sums of money in this account, unutilized, letting your salary accumulate here is out-right foolishness and highly inefficient way of managing money.

Well then what should be done? Answer: We will discover soon.

Current Account

For most of the salaried folks, this is a reimbursement account in which they get paid for most of the official expenses. Many of the self-employed people who provide some kind of service do get paid to the Current Account as well. This account DOES NOT PAY ANY INTEREST. Please do not leave any money in it. With large sums of money left in savings and current accounts, only the banks will have fun with it. It is the banks’ cheapest source of funds. This is exactly the reason why all the banks want to have a large “CASA Franchise”. (CASA – Current Account Savings Account).

Dear readers, honestly please raise your proverbial hand if you are guilty of leaving large-to-decent amounts in these accounts while “waiting to explore” your investment options.

So now that it has been recommended that “not much” cash should be left in “CASA”, you must be wondering where else should you park your money for a shorter duration. Read on.

Liquid Funds

Now, you have to “park” your money for a short duration, you don’t want a drop in investment value, which means safety of money, you want full flexibility of redemption, while you are OK with lower returns (still higher than CASA). Liquid funds are the place to be. These funds carry very little risk. They invest in various money market instruments such as: Commercial Papers, Term Deposits, Treasury Bills, and Certificate of Deposits etc.

Liquid funds should be used to park surplus cash for shorter durations, say up to 3 months. It works very much like a Mutual Fund with units allocated to you upon investment. And the increase or decrease in investment value measured through a change in NAV. Select from the Liquid Fund offerings of any of the large fund houses in India and you will see an annual return rate of around 7%. There’s no exit load on Liquid Funds even if full redemption is made in a single day.

Investments

Provident Fund

This is currently the safest investment option available in India. The rate of interest currently hovers a little above 8% and is expected to remain in the 8%-9% range in the coming years. Fixing of this rate of interest has political implications as well and hence is not expected to go too low.

Contributions of up to 1.5 lakh Rs. to PPF are covered under section 80C of Income Tax Act. With a lock in period of 15 years in PPF, this is one of the best investments which help you realize the time value of money and compounding effect. Under certain conditions however earlier withdrawals can be made but that is a discussion for another day.

Now most of the organization in what they pay to an employee are setting the PF contribution to the minimum. To overcome this, one can opt for the Voluntary PF route or simply open a PPF account with any of the public sector banks. Some private banks too have started to offer this facility. Your money is very safe here.

Fixed Deposits - Banks

In India, probably this is the first investment that most of the people make. Our plain old vanilla Fixed Deposits done in Public or Private sector banks. Some things never go out of fashion, some things never should.

One of the safest investment options available to you. Doesn’t mean that you cannot lose your money in Fixed Deposits. You can if the bank goes bankrupt. Your bank buys an insurance on your FD for up to a certain amount.

The rate of interest various across banks and are a function of duration of holding and principal amount. Choose what suits you best. For larger amounts try splitting it across fixed deposits of variable maturity if you wish to do so, to have a maturing fixed deposits at regular intervals. Much said.

Fixed Deposits - NBFCs

There are many financial institutions which have been allowed by RBI to accept deposits from retail investors. These are a tad bit riskier that “bank fixed deposits” but offer higher rate of return. From taxation point of view they are absolutely similar to bank fixed deposits. You can, for the sake of higher promised returns, have a limited exposure to these offerings.

Select from some of the most stable NBFCs in India and you should do fine. Check for branch availability near you for the sake of customer service as these companies are not as spread out as banks.

I would suggest to strictly stick to the largest NBFCs for this category of FDs. Big ones are few in number and include some public sector housing finance companies, vehicle finance companies and a big consumer finance company. (Go to buy a cellphone or a big TV and chances are you will be offered a loan/EMI payment option from this consumer finance company.)

Recurring Deposits

Fixed deposits as well as Recurring Deposits come under the “Term Deposit” umbrella. They offer the same interest rate, just that the added convenience with RD is that you don’t need to wait for corpus to build up before making an investment decision. Choose an amount and a duration which suits you.

Corporate Bond Fund

So you think you have invested a decent amount in term deposits and have exhausted the PPF limits but you are not yet ready to take the plunge in to equity – directly or through equity mutual funds. Yet you wish to have a higher rate of return compared to Term Deposits without taking on too much risk on to your investment portfolio. You must take a look then at Corporate Bond Funds.

It is mandated by SEBI (Securities and Exchange Board of India) that these funds invest 80% of their corpus in AAA rated instruments (eg. these might be NCD and bonds issued by the most stable companies in India- Reliance, SBI, NHPC, NTPC etc). Ideal investment horizon should be 3-5 years. Many investment portal will provide you with the historical returns of these funds. Corporate Bond funds are essentially debt funds however are less riskier and less volatile than Credit Risk funds, Gilt funds and some long-term debt schemes.

Investments in Corporate Bond funds works in the same manner as equity mutual funds with investment value being calculated and managed through NAVs and allocated units. It is never recommended to retail investors to individually pick and choose the bonds to invest in. Let the professional fund managers do it.

Select from the Corporate Bond funds of the largest Mutual Fund houses in India and you will observe that there is little variance in returns in the Corporate Bond Fund portfolio of these fund houses. Stick to the fund houses owned and operated by the largest Indian banks. These fund houses have the lion’s share of AUM (Asset Under Management) and you too don’t need to venture beyond.

Equity Mutual Funds

A sincere request to all investors who have full time jobs to invest in equity ONLY through respected mutual fund houses. Please do not open “FREE DEMAT ACCOUNTS” offered by your “salary-account-bank”. Unless and until you are working in Financial Services industry or have a good understanding of balance sheets, stocks, corporate actions, corporate governance issues, ROI ratios etc, please do not get into it directly. You just do not have the time and intellect to manage a portfolio. Leave this job to the professional fund manager, pay him a small “fund management fee/Expense ratio” and you will do very fine in the long term.

For beginners in equity investments and even for people who have been investing for a while, it is recommended that they stick to the following categories of equity mutual funds (in that order and decreasing order of investment corpus):

1.      Large cap funds

2.      Index funds

3.      Mid cap funds

There are dozens of funds houses and hundreds of funds available in the marketplace. But you do not have that kind of money and risk appetite to invest in that many funds. Too many funds do actually hit you return percentage. One does not need to look beyond the top 5 AMCs (Asset Management Companies – Mutual Fund houses).

The richest people in India, the HNIs have rested their faith in a few fund houses. You too do not need to be adventurous. Just check once the AUM (Asset Under Management) of these companies and their funds of the said categories, will realize how big these are compared to some others. (One can use moneycontrol or valueresearchonline for this purpose).

As I have already mentioned in article earlier, the best mutual fund houses for you are the ones setup and managed by the biggest Indian banks (one public sector and 3-4 private sector banks). These aren’t too tough to guess. They provide excellent customer service and a good online experience. If the market does good, be sure that the best performing funds will be one from these fund houses. Starting with equity mutual funds one just cannot guess which fund will do better. You just don’t know. What you can do is proper allocation to fund categories (large cap, index, mid cap and so on) and a considerate selection of fund houses. Followed by sticking around long enough through SIPs and occasional lumpsum investment.

From the suggested categories of funds, select 2 best performing Large cap funds from the large AMCs and 2 Mid cap funds from the same AMCs. Index funds have very little variance among themselves, hence a single Index fund from one of the AMCs should suffice.

I had said in the beginning that the instruments suggested in this article follow Low Risk-Low return to High Risk and higher return regime.  This might lend to the suggestion that since equity comes way down in the list it must be extremely risky. Well it is risky if you are mismanaged in your approach and the amount allocated to it. The point I am trying to drive home is that, you do not need too many funds across too many fund houses to gain a good return. Over-diversification of your mutual fund portfolio will be very detrimental to your returns. Stick to a few funds through SIPs and you will do far better in the long term than your colleagues who start investing in stocks on hear-say and stock-tips.

Conclusion

 In closing comments I would say, that it’s your hard earned money at stake, choose wisely, tread carefully. Sudden large equity exposure is never a way to quick riches. In the initial days of your career you have to build a solid foundation both in work as well as investments. Stop thinking from the “returns” perspective and start thinking from the “risk” perspective. You will have a completely different view of investments. Start with larger amounts allocated to the instruments higher up in the list while taking on “some exposure” to the ones lower in the list. Amounts for each instrument will vary from person to person depending upon their individual needs, their income, risk appetite and stability of job. Manage your risk properly, leave equity investments to professional fund managers through mutual funds. Once you start doing this you will gain a lot mental peace and freedom to pursue bigger things in your career. You will more enjoy your hobbies and time spent with family and friends. It’s a good bargain.

DISCLAIMER: The information provided in this article is intended to provide general information only and the information has been prepared without taking into account any particular person’s objectives, financial situation or needs. Before acting on such information, you should consider the appropriateness of the information having regard to your personal objectives, financial situation or needs. In particular, you should obtain professional advice before acting on the information contained in this website and review specific products on their merits.

This is a Guest Article by Mr. Rohit Shourya. 

-Rohit Shourya

I am a full time trader and an investor. I worked in Insurance for a good 10 years before I decided to venture out on my own. I wish to remain a student for life of markets and financial products. Here to help retail investors organize their investments spread across various asset classes.