Be ready for volatility if you want to invest in equity - English translation of one of my old articles

શેરબજારમાં રોકાણ કરવું હોય તો ઊથલપાથલ માટે તૈયારી રાખવી

The above article was published in Mumbai Samachar in December 2011. Please remember, this was written in December 2011 and not in August 2014.

Below please find the English translation of the same article:

The other day I received a call from a friend, who was concerned about the falling value of his investments – particularly his equity investments. He inquired whether he should stay invested in equity mutual funds and whether he should continue his SIPs in those funds, when the portfolio value was down even after holding period of over 3 years.

He insisted that he needed the money for some expenses that have come up suddenly.  In such a case, there is no argument and one has to take money out of investments to fund the expenses.

While we were having the discussion further, he asked if he could consider investment in PPF or NSC. I suggested that these are good options but one has to consider the liquidity requirement as these instruments have limited liquidity. He wanted to invest in these debt instruments and mentioned that he had no liquidity requirement. He was ok locking the money for some time.

Now, see the thread between the above paragraphs. Sudden liquidity requirement comes up when equity portfolio goes down, but the same investor has no need for liquidity and is willing to lock money for years.

The fact is, in this it was not liquidity but the concern that was driving the decisions.

Watching the portfolio value going down is always painful for anyone. However, a decision should not be taken because of the pain, but only after a careful analysis and understanding of the situation.

Try to understand your financial condition. Answers to a few questions would suggest if you are in a position to take risks of investing in equity markets. The questions that would help you assess the situation are:

·       Do you have a regular cash flow to fund your regular expenses?

o   Such cash flow could come through your professional income or salary or through investments in form of dividend, interest or rentals or it could be in form of loan, e.g. reverse mortgage

o   How regular and sustainable is this cash flow?

·       In case the above cash flow stops, what is the contingency arrangement?

·       Have you provided for repayment of your outstanding loans and other liabilities?

·       Do you have enough health and life insurance?

·       Can you live your life comfortably without touching the amount set aside for equity investments? If you are going to need this money in the next five to seven years, be more careful.

Equity investments are subject to market fluctuations and hence a small investor must be careful investing in equity. At the same time, in order to create wealth over long period, this is one vehicle that an investor cannot ignore.

Happy investing

-        Amit Trivedi

The author runs Karmayog Knowledge Academy. Views expressed here are his personal views. He can be reached at amit@karmayog-knowledge.com.

Retail therapy - is not a therapy - it's a disease in itself that needs to be cured

Indulge in retail therapy today – said the day’s horoscope. This line caught my attention.

What does this mean? Is it possible to “indulge” in a “therapy”? So I looked up the dictionary to understand the meanings of these two words.

Therapy means treatment of physical, mental or social disorders or disease

To indulge means to satisfy a desire or to allow someone to have what one wants. To indulge also means to pamper or to spoil. The latter is the more popular among all usages of the term.

Going by the above, if someone wants to indulge, the chances are that therapy may be needed to stop him / her from indulgence.

In the last few years, this term “retail therapy” has been quite popular. It is promoted as a “stress buster”. So what is retail therapy?

Wikipedia defines “retail therapy” as under:

Retail therapy is shopping with the primary purpose of improving the buyer's mood or disposition. Often seen in people during periods of depression or transition, it is normally a short-lived habit. Items purchased during periods of retail therapy are sometimes referred to as "comfort buys".

Retail therapy was first used as a term in the 1980s with the first reference being this sentence in the Chicago Tribune of Christmas Eve 1986: "We've become a nation measuring out our lives in shopping bags and nursing our psychic ills through retail therapy."

To put it another way, it is a way to indulge oneself into the act of shopping without feeling guilty about it. Or it is a way of separating one from one’s money minus the guilt associated with it, till the credit card company sends the bill.

We all indulge in shopping once in a while, but to use it to lift one’s mood – well, think about it. I read some of the usages of the phrase on the Internet, and was shocked. Here are a few samples:

·      My boyfriend dumped me. I went for retail therapy and felt better.

·      I failed in the college exam. I need some retail therapy.

·      Nothing beats spending money to forget about your troubles.

Beats me, at least.

All these examples are about curing the symptom called “bad mood” and not curing the problem – not even addressing the real problem. This is not a great insight – this is as clear as the sunshine.

Retail therapy, in my understanding, is a term coined by some smart marketers to keep their cash registers clinking. As mentioned earlier, it is a way to make consumers spend more without feeling guilty about it.

This is not to suggest that you should not spend. It is your money, after all. Spend your money the way you want. If you want to splurge, nobody should stop you. However, just be honest to yourself. Call is splurging, call it indulgence, call it spending, call it by any such name; just don’t give it the name of therapy to fool yourself and everybody around you.

This could turn out to be a trap and the pains would be felt later – sometime much later, either when the bills come or when the retirement corpus is insufficient.

Retail therapy is not a therapy. It's a disease in itself that needs therapy.

Happy shopping this festive season!

-       Amit Trivedi 

Japanese fund should be second choice - quote

Amit Trivedi, financial planner and director of Karmayog Knowledge Academy, says

Invest right

“It seems India becomes very risky in the months of February and March every year.” A friend loved to say this. 

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Investing and saving have to be much more aggressive now, but do learn to live within a budget

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Dividend or growth - which option is better for a mutual fund investor?

My article in Mumbai edition of Mid-day Gujarati today (page 15, bottom half)

Click here to read ...

The English translation of the same is as under:

Mutual funds are supposed to simplify our lives. However, with more and more attempts at simplifying, the industry has increased the options and the choices for the investors. The number of choices now has reached intimidating proportions.

Let us demystify various dividend options. This should help us take better decisions and make the decision making process easier. We will discuss the objective behind the options and how these can be effectively used in order to achieve our goals.

In the parlance of mutual funds, dividend is distribution of income earned by the mutual fund portfolio. The fund’s money is invested in various securities – these securities generate returns in form of capital gains (difference between sale price and purchase price), interest (debt or money market securities), or dividend (in case of equity securities or other mutual fund schemes). Such returns, if retained in the mutual fund will result into increase in the NAV per unit. Part of these returns can be distributed to the fund’s investors. This distribution is called dividend.

Broadly, an investor can opt for either a dividend or a growth option. Then, within the dividend option, there are choices like the periodicity (in certain cases – especially the debt and liquid funds) of dividend and whether one wants to receive the dividend in hands or get the same reinvested. Reinvestment of dividend results in purchase of more units of the same fund.

The entire hierarchy is given below for a quick reference.

One must note that the dividend frequency options are not available across all types of funds or all schemes. A fixed frequency is not available in case of equity and balanced funds. The daily or weekly options are available only in case of liquid category of funds. Most of the times, there is no payout option in case of daily or weekly frequency and the dividend is compulsorily reinvested.

Which option should an investor opt for? Why?

The answer starts from the objective of the investor. For what purpose was the investment done? What is the goal that the investor wants to achieve through the said investment? Broadly, investors invest their money with one of the three purposes: viz. accumulation, regular income or temporary parking of surplus funds.

Among these three, what one should do with the dividends – whether to take payout or reinvest the dividend – seems quite obvious. Growth option seems logical for accumulation goal and dividend payout for regular income goal. If only life was so simple.

An important factor to consider is the tax treatment of the income as well as the tax status of the investor. Dividends from mutual funds are tax-free in the hands of the investor. However, in case of funds classified as non-equity funds, there is a dividend distribution tax charged on the quantum of dividend distributed to the investors. This tax is charged before the fund pays out the dividend to the investor.

On the other hand, if an investor has opted for growth option, the difference between sale price and purchase price would be considered capital gains. In case of equity oriented funds, gains booked after completion of 1 year from the date of investment are long term whereas those booked before completing one year are short term. (This period is three years in case of all non-equity oriented funds). The short term gains are added to the person’s income for the respective year and taxed at the marginal rate of tax applicable to the assessee for the year.

As can be seen from the above, the tax is likely to be higher on short term capital gains for an investor in a higher income slab. On the other hand, if an investor is in the tax-exempt category or one who does not have a source of income or where the income is below the taxable limits, it would be unwise to opt for dividend option even if there is a need to get regular income. The dividend distribution tax is applicable to all investors irrespective of the level of income.

The last two paragraphs are applicable more to debt and liquid funds than to equity funds. In case of equity funds, many investors perceive that dividend option is better than growth. The logic here is that the dividends are paid out when the fund has made profit. The sad reality is that the dividends may or may not be paid out in boom times when the fund is supposed to have made profits. Many investors expect the fund managers to be able to predict the market tops and thus payout dividends. Once again, the sad reality is that the history does not offer any evidence to the effect. It may be prudent to opt for growth option in equity funds if the time horizon is long, say 10 year or more. The growth option will allow the investor to benefit from the power of compounding.

Amit Trivedi

The author runs Karmayog Knowledge Academy. The views expressed are his personal opinions. He can be reached at amit@karmayog-knowledge.com