All about investment: Simple Questions Answered

In this article we will try to discuss all about investment.

We will not focus on jargons. Instead, we will try to answer simple questions related to investment.

But before that, lets brush-up an important basic about investment.

There is a concept in investment, which categorise “all investors” into 2 types.

  • Owners &
  • Lenders

As an investor, why it is important to be aware of this concept?

Because the “owners” has potential to earn higher returns (in long term) as compared to the “lenders”.

We must remember this, buying an investment will make one either an owner or a lender.

As an owner, the investor can make more money in long term.

But on downside, the owners are exposed to much higher “risk of loss” compared to the lenders.

Hence, before buying such an investment, building sufficient knowledge-base is a must.

Which investment makes one an owner?

Equity linked investments (like stocks, equity funds etc).

Which investment makes one a lender?

Debt linked investments (like savings certificates, fixed deposits, company deposits, debt funds, bonds etc).

If ones objective is to earn “high returns”, it is essential to buy investments which makes one an “owner” and not a “lender”.

[P.Note: Not all investors invest money for high returns. Some times investing in debt based plans make more sense]

The concept of “owners and lenders” helps one to practice “goal based investing”.

Goal based investing helps people to pick “right investment vehicles” which complements their “goals”.

So now let’s read a small report which talks all about investment.

It mainly answers simple investment related questions that comes in minds of common men.

#1. What is investment?

Do you know what makes investment a tough habit to practice (like physical exercise)?

Our human instincts.

Instinctively, we always tend to choose the easier alternative over the tougher ones.

But investment asks us to avoid the “easy path” and take a “tougher route”.

Easy path is to earn money and simply spend it.

No thought, no savings, no investment.

These kind of people may enjoy life today, but at the cost of their future comfort.

Tougher route is to earn money and divert majority portion of it to build wealth.

This is tough. This is what is called as “delaying gratification“.

Investment asks us to delay our gratifications today to buy “assets”.

Wealth building can happen when one buys “quality assets”.

The process of “buying quality assets, holding, and then selling them when due” is called investment.

#2. Why to invest money?

Investment is a tough habit to practice.

Hence the investor must have the objective of investment clearly spelt-out in mind.

First fix the goal and then invest for its fulfilment.

Otherwise it is almost certain that investment will not continue for long.

One can invest money for following two goals:

What can be the financial goals of life?

Like buying a vacation, car, home, higher education, child’s marriage, parents care, retirement etc.

The point is, we all know about these priorities of life. But being only aware is not enough.

One must also ensure availability of sufficient funds when the priority demands it.

How to do it?

Buying “right investments” and “holding” them for sufficiently long time.

Right investments means, investments which compliments its goal.

But what means by “holding for sufficiently long time”?

People often think that holding investment for 3-4 years is enough.

But this understanding is incomplete.

If goal realisation is 10 years in future (like child’s higher education), one must hold for 10 years. It cannot be sold before.

If goal realisation is 3 years in future (like car purchase), one must hold for 3 years.

The bigger idea is to always be aware of why one is investing money?

One is investing to build funds for various financial goals.

Building funds becomes easier if one starts early.

Early start enables people to take advantage of the power of compounding.

[Read more: Why investment is necessary?]

#3. What are the habits of a good investor?

Good investors stick to the basics. They agree to follow a set of investment principles.

They do it not as a compulsion, but as a good habit.

When investments emerge out of “habits”, and are based on strong “principle”, the investor tend to make more money.

What are those principles?

Lets try to figure it out by asking simple questions…

#3.1 Why to start early in investment?

No matter how low is the income, one must save and invest regularly.

The idea is to start “accumulating assets” from a very early age.

One must set a target to start investing from age of 21. Soon after attaining adulthood.

But if you have missed the bus, start from today. In investment, there is no tomorrow.

If you will not start investing today, tomorrow will be only a distant dream.

[Read more: Advantages of starting to invest early]

#3.2 Why to fix goals before investing?

Goalless investing is not efficient.

Such investment often gets liquidated and get spent.

Buying mutual funds today and selling it to buy random things tomorrow is not investment.

Fix a goal and start investing towards it attainment.

Investment which is done for child’s higher education, should not get spent on buying a home.

Investment which is done for buying a car, should not get spent on overseas vacations.

Idea is to utilise the investment fund for its rightful purpose.

[Read more: Goal based investing]

#3.3 How to pick right investment options?

What it means by right investment option?

Those investment options which “compliments the goal”.

An investment can compliment a goal in term of “risk that can be taken” for it.

The Risk attribute can be decided in 2 ways:

  • Nature of Goal (Compromisable or uncompromisable).
  • Holding time (Short, medium or long term).
Nature of Goal >CompromisableUncompromisableInvestment vehicle
Short Term (<3 years)Yes100% in Money Market Fund
Short Term (<3 years)Yes100% Debt Fund
Medium Term (<7 years)Yes50% in Debt Fund, 50% in Balanced Fund
Medium Term (<7 years)Yes100% in Balanced Fund
Long Term (>7 years)Yes50% in Balanced Fund, 50% in Large Cap Fund
Long Term (>7 years)Yes100% in Large Cap Fund
Very Long Term (>10 years)Yes50% in Large Cap Fund, 50% in Multi Cap Fund
Very Long Term (>10 years)Yes100% in Small/Mid Cap Fund

[Read more: All investment options in India]

Lets understand this with an example.

Suppose Ram has 3 goals:

  1. Buy a Car.
  2. Buy a Home.
  3. Build Retirement Fund.

#3.3.1 Where to invest to buy a car?

Downpayment for Car:

  • Value: Rs.3,50,000,
  • Time horizon: 3 years.

What is the nature of this goal? High risk can be taken? How to quantify risk?

If the value of Rs.3,50,000 could not be reached, is it going to adversely effect Ram’s life?

Answer is no. It means Ram can take high risk.

But the investment time horizon is small (< 3 hears).

Hence risky investment must be avoided.

CompromisableUncompromisableInvestment vehicle
Short Term (<3 years)Yes100% Debt Fund

#3.3.2 Where to invest for home downpayment?

20% Downpayment for home.

  • Value: Rs.10,00,000;
  • Time horizon: 5 years.

What is the nature of this goal? High risk can be taken? How to quantify risk?

If the value of Rs.10,00,000 could not be reached, is it going to adversely effect Ram’s life?

Answer is Yes. It means Ram cannot take high risk.

The investment time horizon is 5 years. Hence Ram can take moderate risks.

CompromisableUncompromisableInvestment vehicle
Medium Term (<7 years)Yes50% in Debt Fund, 50% in Balanced Fund

#3.3.3 Where to invest to build retirement corpus?

Building retirement Corpus:

  • Value: Rs.1,00,00,000;
  • Time horizon: 30 years.

What is the nature of this goal? High risk can be taken? How to quantify risk?

If the value of Rs.1,00,00,000 could not be reached, is it going to adversely effect Ram’s life?

Answer is Yes. It means Ram cannot take high risk.

The investment time horizon is very long (30 years). Hence Ram can take calculated risks.

CompromisableUncompromisableInvestment vehicle
Very Long Term (>10 years)Yes50% in Large Cap Fund, 50% in Multi Cap Fund

To sum-up

Before one starts to invest money, it is essential to first establish whether one can must invest to be an “owner” or a “lender”.

Owners can earn high returns.

But owner-based investment option must be given long holding periods.

Here the investor must also be reasonably knowledgable about the market. Why?

Because such investments expose one to high risk (Stocks, equity based mutual funds etc).

Lender will earn lower returns than owners.

But their returns are secure and almost risk free. Hence deeper knowledge is not necessary for investing.

Lenders can invest with shorter holding periods.

Example of lender’s based investment options are bonds, deposits, debt funds etc.

How to decide if one can invest to be an owner or a lender?

This can be decided by fixing investment goals.

Analysing goals will highlight which type of investment vehicle is suitable for investing.

The selected investment vehicle must compliment the goal.

To sum up, how to practice investment?

Easy answer is:

  • Be aware of the market.
  • Fix financial goals.
  • Select right investment which compliments the goal.
  • Stay invested for the desired period.

If one does not have enough know-how, investing ones money through mutual fund route will be a wiser decision.

I hope this blog post could answer almost all about investment basics.

If you want to know more, please ask for it in the comment section below.

Have a happy investing.

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