I usually start Money Management and Financial Planning sessions by mentioning the richest individuals in the world and India. Names are rattled out quickly. The next question is if these people have built their fortune by working 16 hours a day, or accumulating funds in their bank accounts. The quick answer is No, but I never fail to notice a shadow of disappointment on young faces. The underlying unspoken thought is about their perceived inability to reach there.
The first challenge a beginner faces is to put aside funds to multiply. Many of them have just moved out of parental homes, to a new base. The cost of accommodation, transport, internet and healthy food are prime concerns. Yet, a self-assessment exercise reveals that they can save a certain predetermined percentage of their income by economising and cutting entertainment costs. This habit of putting aside a certain percentage becomes a sound investment strategy for financial wellness.
Pay Yourself First is a rule financial planning experts recommend. The recommended percentage is minimum ten percent of your net take-home income.
Warren Buffet famously said that the eighth wonder of the world is the power of compounding. Compounding basically means earning interest on interest. Ploughing profits back in a business or any sound investment can give exponential returns.
The following chart shows how an investment of Re.1/- can become Rs. 3.35 crores in 25 years, by merely doubling the number every year. The sooner one starts, the better.
One needs to secure life, health and assets with insurance to prevent sudden outflow of funds in an emergency. Money can grow only if soil is fertile, and the base strong.
The capacity and appetite for risk varies as per age, career profile, family responsibilities and temperament.
A proportion for high risk, medium risk and low risk assets as per the risk profile needs to be determined.
Bank deposits and debt funds fall in the safe investment category. Gold and real estate go through cycles, and an assessment for the next 5-10 years needs to be done before investing in metal.
Stock market investments carry a high risk. If one is not acquainted with market operations, but chooses it as an option, mutual funds are comparatively safe. Returns depend on the time frame chosen, and of course market conditions.
A beginner needs loans – to buy a house, vehicle or maybe to take care of some other short-term requirement. Clarity is needed on total interest outgo, before deciding on a tenure. Another option is to borrow for the long term and enjoy low EMIs, but prepay the loan as and when surplus money is available.
Market appreciation of the property varies for different locations, and one needs to do the cost-benefit analysis carefully. Rentals are an expense, but work well if the employer bears the cost in some manner.
Credit card debt needs to be managed carefully. Credit card issuers charge the highest interest in the banking industry, at more than forty per cent per annum. Credit cards are an asset, as long as you pay the bills on the due date.
A bad credit score can block one’s chances to get a fresh loan. It is the financial parameter that matters most for a young person.
One needs to understand the complete impact of debt on future spending.
Uncertainty is the name of the game in the current scenario. Other than government jobs, no other career guarantees life time employment, profitability or engagement. Job profiles are disappearing fast with the advent of digitalisation and artificial intelligence. Organisations follow hire-and-fire policies.
One needs to develop more than one passive source of income to cover the risk of an income being discontinued. It can hit harder, if one has dependents. Passive income can be lease rentals, interest, dividends on shares, online income, affiliate marketing, part-time jobs or moonlighting (freelancing).
There are scamsters around to fleece, so one needs to proceed with caution. It helps to have an earning partner. It increases financial security.
There are Registered Investment Advisors and fee-only financial planners who charge for giving you a plan. They don’t sell products.
Mutual fund distributors earn a fee from the mutual fund for what they sell.
Online financial planning services are available, but take care to choose between personalised advice and algorithm-generated financial reports.
Broadly, financial planning for a beginner can be summarised as follows: