Don’t just earn your salary, grow it

(Starting notes: Please read the article below with an open mind)

For many of us starting our careers out there, or those already having a well-formed life, we have always dreamt of earning more. Many people lookout for a new job with a high pay raise while many choose to have a second income by working as freelancers. None of that is negative but as someone has said “make your money work for you”. That means growing money, by using money, without much day-to-day effort.

Well, everyone here also knows the basics of stock markets, mutual funds, etc investment instruments, and “how risky it is to invest in shares” (get the sarcasm :p). We have also heard that savings are the earnings of the future, but to all those who didn't invest their savings, welcome to the “education-system-has-failed-you” part of the world. Yes, keeping your money in your beloved bank’s utterly sweet savings account or Fixed Deposit or Recurring Deposit is causing you to lose it. Read along to find what is depreciating your money and how to grow it.

Inflation & bank interest rates

“Inflation!! No, I am weak in economics since school”, this was the reaction of a friend. Well, many have hated “economics” as a subject but approaching it with a similar perspective as a school kid would only harm you. Though schools have made the topic seem complex and for many, inflation is not some rocket science. We believe that inflation should be normalized as a “general knowledge” term and that it is in everyone’s capabilities to understand it.

We need not understand how it is calculated, why it exists, or even what causes inflation. Our goal here is to just understand the meaning of the term.

Inflation is the decline of purchasing power of a given currency over time.

In simple terms, inflation means, prices of goods & services increase i.e. an object with a price tag of Rs. 100/- today would be Rs. 105/- next year. In some cases, the price would still be the same but the quantity would decreases, a simple psychological trick. Eg.: A pack of chips has been costing Rs. 10/-, but the amount of chips per packet has reduced over the years. A pack of biscuits still costs the same but the size of each biscuit has reduced.

So to conclude, the “value” of Rs. 100/- decreases year on year, this is what “expert economists” call inflation.

So if you are saving a part of your salary each month without it “growing”, the value of that amount saved is reducing as you read. For it to keep its value, or better, increase its value, it must grow itself. But, how?? Read on

Investments and the myths

“You need a lot of money for investment”

One of the biggest excuses that people make for not investing is lack of funds. No amount invested is small or big. You’ll always get good returns in the long haul even if you invest a small amount because of the power of compounding(The next section covers this).

“Investing is not our cup of tea, banks are safe”

It's a hype that investing is tough. Investing sure has risks involved with it but as all ads announce “Investments are subject to market risks please read all documents carefully before investing”. Well, there is your answer, take calculated risks. It means studying the risks involved and figuring out a way to reduce the risk.

“Money invested in shares disappears overnight”

Investing without studying makes the money disappear. Investing based on so-called “tips” of the market makes the money disappear. Being consistent and not jumping around whenever the market falls in short term is the key. “Investing for the long term is the way”.

“Money invested should grow overnight”

Well, we all know what “21 din mei paisa double” did to those lads. They eventually lost their money by running behind fast returns. If someone says they have doubled their money in a short period just ignore it, it is just a fluke by which they have earned it. One should expect average returns between 13% — 20% per annum.

“Investing is risky and its gambling”

We’ve been told by our elders that investment is equivalent to gambling. Well, they were born in an era where the stock market had no regulations or SEBI and RBI was still figuring out the protocols and policies. Thus, they witnessed multiple Scams(Harshad Mehta/ Satyam scam, etc), which wiped out families who had invested in the stock market. With current governing bodies and rules & regulations in place, it’s almost rare to find loopholes in the system for such scams to happen. Also, there’s a simple risk to reward ratio in everything in life. So if we invest carefully as per our risk appetite and diversify our portfolio, the risk factor almost dilutes to zero for the long term.

But what's the right time to start investing

As young adults, we never really think of investment until nudged. Usually, we try to put off any investment decision until we are financially stable or in other words until we actually get a “job”. However, we are in the prime stage of investment when we are in college and miss out on reap of rewards by not catching this investment train early. To blow your mind let’s do a back-of-the-envelop calculation to compare the wealth generated if you start investing at the age of 16 v/s 25

Example — Let’s consider an example of two friends Mr. A and Mr. B

Mr. A starts investing Rs 1000/- at the age of 16 and Mr. B starts investing Rs 1000/- at the age of 25 i.e 9 years late compared to Mr. A. Let’s consider that both of them get 15% returns and redeem their investment at the age of 60(retirement age in India). The following table shows the sum accumulated at the end of tenure.

At the age of 60, Mr. A. accumulated Rs 5.7 cr on investment of Rs 5.28 L whereas Mr. B had accumulated Rs 1.48 cr on an investment of Rs 4.20 L. Thus starting investment early benefited Mr. A and he can leave a peaceful life post-retirement. A question one might ask is how did A’s corpus increase on such a small investment amount? That we explain in the next section where we show how the power of compounding enhances the corpus accumulated every year.

What does Kunal Shah think about early investing https://www.youtube.com/watch?v=XGW6VXHsND8

Power of Compounding

Mathematically speaking compounding is an “Increase in the value of investment due to interest earned on the initial amount as well as the interest accumulated in subsequent years”

Compounded Amount = Initial Amount * [ (1 + interest rate/100)^Time ]

*ignoring the number of times interest is compounded for simplicity

Compounding interest is also called as 8th wonder of the world which makes your money work for you. Everyone is taught Simple and Compound interest in school, but no one is told about its real-world applications and implications. Simple interest means you’ll get interest on your initial amount invested. But with compound interest, you earn interest on the initial amount as well as the accumulated interest amount over the years.

Here’s a hypothetical example to highlight the power of compounding compared with Simple Interest

A and B both invested Rs 1,00,000 in a fund that offers an interest rate of 10% for 10 years. A went with simple interest and B went with compound interest.

For A (total corpus) = 1,00,000*[1 + (10/100)*10]

For B (total corpus) = 1,00,000*[(1 + 10/100)¹⁰]

At the end of tenure, A will have a total corpus of Rs 2,00,000 whereas B’s total corpus will be Rs. 2,60,000.

One of the biggest benefits of the power of compounding is the value or time or term for which you are investing. The early you start and the longer you keep your money invested, the greater your rewards will be in the above section. With time, you could gain returns and the yields on these returns could further generate returns, thus helping to increase your investments quickly.

Key rules to get the full benefit of compounding :

  1. Starting early — As explained above, the early you start greater will be the effect of compounding because of the exponent factor.
  2. Discipline — You must define your financial goals and abide by them. Investing regularly in your investment journey can ensure discipline and this will help you achieve your financial success.
  3. Patience — Everyone wants to double or triple their corpus overnight. This is the major reason people losing money in the stock market. With patience and discipline, the risk factor reduces greatly and it also allows your investment to grow.

If you can’t find a way to make money while you sleep, you will work until you die — Warren Buffett

In the upcoming series, we would be explaining more about managing personal finances and investments.

Tips

  1. Research about the performance of any asset before investing. moneycontrol.com and screener.in are good platforms.
  2. Invest in the long term it is less risky and more rewarding
  3. You may see losses in short term, but remember to patience is the key, you will always gain in long term.
  4. Do not believe in rumors saying a certain asset will grow 10x, an average return of 13%-20% each year is healthy.
  5. Do not cash out investments unless an emergency. Let it mature according to your goal.
  6. Practice “coffee can” investing. Put your money and forgot about it for a long time.

Youtube videos & playlist to binge-watch

Books recommendation

We understand that the above stuff can be confusing, difficult to comprehend, or might create doubts, you can simply put your queries in the comment section and we shall answer them in the simplest way we can, Alternatively, you can reach out to us on Twitter & LinkedIn.

Twitter- Varun Gujarathi, Savan Nahar

LinkedIn- Varun Gujarathi, Savan Nahar

By,
Varun Gujarathi & Savan Nahar

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