"In any long term investment, it is not the absolute amount of money that you make but the percentage that is important. Adjust your corpus amount for inflation and make sure that whatever investment that you do gives you a return much better than inflation," he said.
Below is the verbatim transcript of the interview
Q: We understand that investors often don't calculate returns on the real value of money. How is the percentage return different from the absolute return and how can investors calculate it?
A: We can just use an example. Suppose Rs 3 lakh is invested today turns into Rs 90 lakh in 30 years. On the face of it, most investors would calculate that you made Rs 87 lakhs on an investment of Rs 3 lakh, and that is an excellent investment. The key point is to calculate the percentage return. Compare it with inflation or with any other form of investment, we will realize that the return is only 12%. In any long term investment, it is not the absolute amount of money that you make but the percentage that is important.
Most frequent examples are long term investment products. If you invest Rs 1 lakh for 5 years, wait for another 15 years and then after 20 years, every year you will get Rs 1 lakh back for 20 years. That is a return of Rs 20 lakh on an investment of Rs 5 lakh again looks great but when you do the calculation that is just about 5-5.5%.
Q: When you are calculating this 12% in the previous example of Rs 3 lakh becoming Rs 90 lakh or the current example of Rs 5 lakh becoming Rs 20 lakhs, are you only taking the interest rate projection or are you adjusting it to inflation?
A: I have just taken what is presented to a client. This is what you will get.
Q: Are you saying if it is adjusted to inflation, it is lesser?
A: If you take the second example, it is 5%. When inflation is running at 8% this is a negative investment essentially.
Q: In the previous example of 12%, was that only an interest rate calculation or wait it adjusted to inflation?
A: It is an interest rate calculation but unless you do the interest rate calculation, you cannot really find out whether it beats inflation or not.
Q: I wanted to plan for my six-month-old daughter's education. An insurance company agent suggested a scheme where I would have to pay about Rs 30,000 per month and I would get Rs 16 lakh over a period of 20 years, this would be in three payouts. Basically, there will be Rs 2 lakh after 16 years, Rs 2 lakh after 18 years and Rs 12 lakh after 20 years. Is it better to opt for an investment plan that is tailor made for educational purposes but offers low return or to go with a traditional portfolio of equity, gold and mutual funds?
A: I am just curious why would you even weigh the two options? What is making you weigh the option where you would accept a lower return? My point is that there is no earthly reason for you to accept lower returns just for getting a tailor made plan. Insurance is extremely important; you can't argue obviously if something were to happen to you, you would want to ensure that your six-month-old child, her educational plans are not at all compromised. But for that, buying a term insurance is the easiest and the cheapest way out.
Once you have that out of the way, there is no earthly reason for you to accept lower returns and since you have given such a long horizon, you can choose mutual funds or PPF, if you don't really want to take risk. In all cases, you will find that whatever plan that has been told to you, will hardly return you 5-6% and even that is not guaranteed. In the same way, if you invest in a mutual fund, your return is not guaranteed but then the return that you get would be much higher.
If you don't really want to take risks then maybe you can look at PPF. I think you have to get an investment instrument that beats inflation. Incidentally, I think in the amount itself, this Rs 16 lakh that you are planning for might look okay today but 18 years from now, when your daughter really needs it, if inflation is running at 8%, you probably need 4 times that amount for it to be equivalent to Rs 16 lakh today. Adjust your corpus amount for inflation and make sure that whatever investment that you do gives you a return much better than inflation.
No comments:
Post a Comment