6

Mistakes Investors Make That You Should Avoid

Hello fellow investors!

This Thursday, we are sharing a few mistakes that a beginner does when he/she starts investing and it is important that you understand them and act on it accordingly.


1. Not investing

The first and the biggest mistake investors and savers make is not doing it.
Don’t wait for that raise, inheritance, or lottery win. Start today, right now, with whatever you can.

Consider this: If you can save just 100 INR a day every day for 20 years, and earn 12 percent on it, you’ll end up with INR  30,48,395. That’s enough to change your life and the lives of those you love. So let's just start with keeping INR 100 aside.



2. Investing before doing your homework

When it comes to investing in risk assets like stocks, one mistake I’ve made is going on “gut instinct” and 20 minutes of Internet research.

When dealing with investments that can go south, don’t invest without a clue. If you’re thinking about stocks, there’s plenty of online research and information available free, not to mention TV shows and library books.



3. Being impatient

In a post called The 10 Commandments of Wealth and Happiness, the author, Stacy Johnson, offers this advice: Live like you’re going to die tomorrow, but invest like you’re going to live forever.

Stare at a newly planted tree for 24 hours and you’ll be convinced it’s not growing. Fixate on your investments the same way, and you could miss out on a game-changer.

As discussed above, your 100 INR daily grows into 30 lakhs over 20 years, you gotta be consistent and patient.



4. Not diversifying

There are two types of risk in stocks. The first is called market risk: If the entire market tanks, your stocks probably will as well. The other is called company risk: the risk a specific company will do poorly.

It’s hard to eliminate market risk, but you can reduce company risk by investing in lots of companies.

Can’t afford to own a meaningful number of companies? That’s what mutual funds are for. A mutual fund allows you to own a slice of dozens – even hundreds – of companies with an investment of as little as INR 500.



5. Taking too much risk

Everybody wants to double their money overnight. But if you’re always swinging for the fence, you’re going to strike out often.

Some investments are little more than gambling. Investments like options and commodities, for example, promise huge rewards, but the risk is also huge. Don't forget high risk = high returns.



6. Not taking enough risk

On the other side of the same coin, some investors stand like a deer in the headlights, unwilling to take even a measured amount of risk.

Instead, they keep their savings only in fixed deposits and bank, earning less than 6% (which is only reducing) and comforting themselves with Mark Twain’s expression: “I’m more concerned with the return of my money than the return on my money.”

Insured savings will ensure you never lose anything. But they’ll also ensure the purchasing power of your savings won’t keep pace with inflation. In other words, you’ll become poorer over time.



7. Paying too much attention

There is such a thing as information overload. Between the Internet, newspapers, magazines, and cable TV, it’s easy to get more than your fill of conflicting information.

Step back, look at the big picture, find a few financial journalists or others you trust, then tune out the rest.



8. Following the herd

One of the world’s wealthiest men, Warren Buffet, said, “Be fearful when others are greedy; be greedy when others are fearful.”

If you’re convinced the economy is going to zero, buy guns and canned goods. But if you can reasonably expect a recovery someday, invest – even if that day is a long way away, and even if it’s possible things could get worse before they get better.

We have seen the recovery that has happened from the below of March 23, 2020, of the stock market to current where we are almost back to what we were at the beginning of 2020.



9. Holding on when you should be letting go

Equity is best played as a long game. You should hold on long enough to see it through, but not knowing when to get out could cost you big.

Don’t obsess over your investments, but don’t ignore them either.



10. Being overconfident

The economy runs in cycles of boom and bust – when times are good, people often confuse luck with skill.

This is what happened during the housing bubble and the dot.com stock bubble and the past 4 months (March 2020 to July 2020). Being in the right place at the right time isn’t the same as being smart.



11. Failing to adjust

How you invest should change as your life changes. When you’re young, it makes sense to invest aggressively, because you have time to recoup from mistakes.

As you approach retirement age, you should reduce your risk.



12. Not seeking qualified help

While investing isn’t rocket science, if you don’t have the time or temperament, consider getting help.
The wrong help?
A commissioned salesperson more interested in their financial success than yours.
The right help?
A fee-based planner with the right blend of education, knowledge, credentials, and experience - you can contact us at ria.wealthcafe.in

Happy Investing!

Disclaimer: - The emailers are for information purposes only. Information presented is general information that does not take into account your individual circumstances, financial situation, or needs, nor does it present a personalized recommendation to you. You must consult a financial advisor who understands your specific circumstances and situation before taking an investment decision.



Investments - 06/19/2020
2

Understanding 'Mutual Fund Units & NAV

Hello fellow investors

More than 6 months into lockdown, 1 market crash and 1 great recovery, the only constant thing is our learning and our Thursday emails. We started writing our emails soon after lockdown and now we enjoy it so much that we cannot wait for the next Thursday to come and share some insights from the finance world with you. 

In today's email, I am going back to the basics of Mutual Funds and explain what exactly are Mutual Fund Units and NAV and how they help or not help you make investment decisions.


What is a Mutual Fund Unit?

Just as share represent the ownership of Equity, units represent the ownership of Mutual funds. When you invest 5000 INR in a mutual fund and the NAV of the fund is 50 INR - you would get 100 units. 

It is like buying petrol when you go to the petrol pump, you ask them to fille petrol in your car for 1000 INR. If the price per litre is INR 100, you would get 10 litres of petrol in your car.

Let's understand a few facts about Units of Mutual Funds


1. You don't need to buy 1 entire unit of Mutual Fund
You can buy a mutual fund in fractions or parts, it is the amount of money you invest that determines how many units you get. Like when you fill petrol in your car, you tell them fille petrol of INR 1000, if per litre petrol price is 72, you get 13.88 litres of petrol. The same thing happens with Mutual Funds.

 

2. You do not sell all your units to withdraw from Mutual Funds.
As you can partially invest in mutual funds, you can also partially withdraw from mutual funds. You can do that anytime you want (unless they are close-ended schemes)


3. Units are not the same as the share price
Equity Mutual Funds invests in Equity stocks/shares but it does not mean that units are the same thing. The share price is of an individual company and the demand and supply of that particular stock are one of the factors of their share price movements. Such does not happen to mutual fund units.

An average of all the underlying stocks of the mutual funds helps determine the value of each unit which is called as Net Asset Value - NAV.

4. NAV is the price of each unit
The price of each unit of a mutual fund is the NAV. If you want to buy 1 unit of a mutual fund, the price you have to pay is the NAV of that mutual fund’s unit on that day.NAV changes every day. So when the NAV goes up, you gain.

A high NAV does not mean that a particular Mutual Fund is better than the one with a low NAV. NAV price does not determine the value of the Mutual Fund.

NAV= (Total market value of assets invested by the fund-Expenses)/No of Units

5. Mutual fund unit price (NAV) goes up and down

As NAV is determined based on the total market value of the assets invested in by mutual fund which includes shares, bonds, cash, any interest or dividend earned by them and would also capture the movement in the price of shares & bonds, the NAV would also move.

NAV of a fund changes every day where there is a change in the underlying asset, this change helps you know if you are in profit or loss.


Mutual Funds are considered one of the most common forms of investing today, in fact it has generated a lot of wealth for investors who have understood the risk of investing in them and managed it appropriately. We will soon be launching a course on Mutual Funds and more, so stay tuned and keep reading our emailers for a detailed update on the same super soon.

Disclaimer: - The articles are for information purposes only. Information presented is general information that does not take into account your individual circumstances, financial situation, or needs, nor does it present a personalized recommendation to you. You must consult a financial advisor who understands your specific circumstances and situation before taking an investment decision.



How to Invest in Mutual Fund guide / Investments / Mutual Funds - 06/09/2020
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Should You Invest More In Equity Right Now?

Hello Investors

 

We believe that our first email in this chain would have given you direction on how you should go about investing in current times.

Some of you were asking us if they should invest more money in Equity right now?  Is this the Big Sale we were all waiting for and should we start investing? Will the market fall more so should we wait or invest now?

No one can tell you with certainty whether we have reached hit rock-bottom. Every time one is thinking it cannot go further down, the markets are reaching another lower circuit.

'You can never predict what is going to happen with the markets as that is not in our control. What is in our control is how we react to the market and take actions accordingly.'

You must keep a note of the below mentioned before you start investing all your money into Equity:

1.Always have an Emergency Fund (at least 4 times your monthly expenses) invested in risk-free investment options.

I cannot emphasize enough on how important it is to have that emergency fund in place, especially in times like these. I do not intend to scare you but I am sure everyone is an expert in their fields and are aware of how the near future looks like. Hence, even before you start investing ensure that your emergency fund is enough to help you sail through the worst-case scenarios in the coming months.

Keep some surplus money with you before you go all investing in Equity right now.

 

2.Have your Health Insurance and Life insurance in place.

With the current pandemic situation, it important to prioritize our life and health. You must have these insurances to ensure your family has something to fall back on. Also, where there is no security about the future, it is not the smartest decision to just rely on your company's health insurance. It is advisable to have one for yourself and your family members. You can read more about it on our blog.

 

3.Do not forget the goals and reasons for whichyoustarted Investing in the first place.

Remember our entire discussion from the workshop on how to Invest.

 

For short term goals - less than 3 years - Invest in Debt (Risk-free Investment options)

For long term goals - more than 3 years and beyond - Invest proportionately in Debt and Equity based on your Asset Allocation.

Debt Investments acts as a cushion when the Equity markets are volatile.

Note: Once your long term goal (more than 3 years) becomes a short term goal (you reach closer to that goal), redeemed/ sell off the equity investments and shift the same to secured debt investments so that any change in the equity market while attaining your long-term goal does not impact your investments.

Now do your Asset Allocation that shall determine how much money you should invest in Debt & Equity in the current market scenarios. Your asset allocation will help you invest based on your risk profile and sleep peacefully even where the markets are being volatile.

First-time investors should also invest based on their Asset Allocation and not invest 100% in Equity.

Remember that it is not the stock that determines your exact return from portfolio but your asset allocation which determines over 90% of the return.

This is probably a good time to open your goal- working sheets (shared during the workshop) and review your portfolio.

 

 

Equity - 03/31/2020
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Why should you do a SIP?

Systematic Investment Plan (SIP) as we know it, has become the most favoured route of investments for not only the investors but also Financial Advisors in India. That is not surprising since they have so many advantages: Become a Disciplined Investor A SIP helps you to discipline yourself. You can commit a fixed amount each month to investments, and the amount gets invested at the pre determined date. This ensures that money does not lie in your savings account at a meagre 3.5% and there is no temptation to spend that amount as it is not there to spend. Rupee Cost Averaging Enormous sums of money have been lost by investors in a bid to time the market. But no one has been able to do it consistently. When experts have failed, the rookie investors will obviously not be able to gain much. It is a useless activity, even attempting to time the increasing volatile markets. SIPs ensure that a fixed amount is invested irrespective of the ups and downs in the market and hence the cost of acquisition of investments is averaged out. The timeless principle is "Buy Low Sell High". However, investors tend to sell out when there is a fall in the markets due to panic. A rising market tempts them to enter the markets at high levels. SIPs help overcome this problem.
                                                                   Bit by Bit, you can grow your fortune
Achieve your Financial Goals Your future financial goals like buying a car, buying a house, a child's education can be converted into the required monthly SIPs. For example, if you need INR 6 lakhs after 4 years to purchase a car. Assuming that your investments earn 15% per annum, you will need to save INR 9,198 per month to achieve a corpus of INR 6 lakhs. By converting your goals into monthly investments, you can view the achievability of your goals clearly and this also motivates you to stay on track with your investments. Compounding Benefits The biggest advantage of regular long term investments, compounding benefits. The investments made continue to grow year on year and the invested profits participate in growth in future years. Effortless Investments Once initiated an SIP can go on for as long as you want it to run with no further intervention required from your side. With a simple instruction, the SIP can be stopped at anytime. The convenience, returns and all the other benefits of SIPs have made SIPs the most preferred and the favoured form of investments. If you still have any questions, you can ask the same in the comment section below.
Mutual Funds - 03/01/2019
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How to do goal based investing

Setting up a goal is something that no one does these days. I am asking you all to set a financial goal.

Every time I ask someone – Why are you investing? What is the purpose of your investment? 90% people will answer to grow my surplus money.

I have money lying in my bank account. I am just spending too much. I thought it was time to start investing.

My next question is ‘for what do you want to grow your money?’ Their answer is to become rich or help in a financial need or to travel. Travel is a more focused goal but becoming rich? Isn’t everyone working to become richer than what they are today?

In cases, where your goal is more focused and clear, you will be in a better position to achieve it than your investments where it is not.

When you know where you are going, you are halfway there.

I know it is extremely difficult to sit with a pen and paper and jot down your financial goals. However, the difficulty of the process does not reduce the importance of the same.

I have listed below a step by step process of identifying your goals, requirements, money that you need and the products into which you must invest to achieve your goals.

What do you want to achieve in life?

I am sure you have been asked this question by various people ‘What do you want to be when you grow up? Where do you see yourself in 5 years? What do you want to do in life?’ These are all your various goals that people want to know.

What are the things that require money to be achieved – i.e. financial goals?

Yes. All goals need money but all goals are not financial goals. Wanting a promotion at work, Best in your field, learn a new hobby or activity are all personal and professional goals which does not require too much investment or any investment of money from your end.

Owning a  house, traveling to Europe, buying that car, your child’s post-graduation are some examples of goals which require a huge investment of money from your end and are called financial goals.

Hence, make a list of all your goals and from that highlight your financial goals.

Prioritise your goals - difference between Need and Wants?

It is very important to prioritise your goals based on its importance and requirement.

Needs are such things that you cannot do without and cannot be canceled, such as your child’s education or your first house.

Wants are things which you desire but can do without them such as a vacation, your second home etc.

Segregating your goals into needs and wants will help you prioritise them better. All the needs can them be numbered based on their importance followed by your wants.

How much money do I need today to achieve these goals?

Once you have made an entire list of your goals and sequenced them, you must identify what is the cost of achieving those goals. For example, if your goal is to buy a car, you must identify which car you want and how much would it cost. 'I want to buy a car like I20 and it would cost me 7 lakhs INR today' - this a well-defined financial goal.

Where you are estimating the cost of goal because you do not have an exact basis to calculate it, always consider the amount on the higher side.

By when should I achieve these goals?

The fact that it is a goal, it means it is futuristic and you do not have sufficient means to achieve it today. Hence, you must identify and apportion a realistic timeline towards your goal.

For example, I want to buy a car in next 2 years.

  • Goals less than 5 years: Short-term goals
  • Goals between 5 years to 10 years: medium-term goals
  • Goals more than 10 years: long-term goals

Adjust the Inflation

Given that goals are a futuristic, the current cost that we have associated to our goals will obviously increase in the future because of inflation. Identify the inflation rate towards your goal. The inflation rate is not the same for all types of goals; it varies depending upon the market conditions and the goal.

After knowing the inflation rate and the current cost, you will be able to compute the future value of your goal.

It is very important to identify the correct inflation rate. If you take a lower inflation rate your goal will cost you more than what you estimate and if you take a higher inflation rate, the future cost may scare or reduce your confidence to be able to achieve the goal.

Asset allocation based on the goal, cost, and tenure

Once you know your goal and its value, it is time to identify the investment products.

The tenure of your goals will help you to identify what asset class you must invest in and in what ratio.

  • The term is less than 5 years – 100% Debt
  • The term is 5 years to 10 years – 40% Debt 60% Equity
  • The term is more than 10 years – 30% Debt 70% Equity

This is a very general method of asset allocation. It may vary depending on your risk taking capacity and ability. Hence, it is important to analyze the same for oneself.

Portfolio Return Expectations

Return expectation from each class of the asset is as follows:

  • Equity: 12%
  • Debt: 8%

You will have to invest money in your goals based on the tenure and asset allocation. Each goal will not have one investment but may consist of many investments some in equity and others in debt. Hence, it is important to compute the return expectations for the entire portfolio, to be able to compute the exact amount you must invest to achieve your goals.

For example, my goal of buying a car is a mid-term goal, my asset allocation will be 40:60.

My portfolio return will be (40% * 8%) + (60% *12%) = 11.2%

How much money to invest?

This is the most crucial part, the entire computation of the above working will lead to identifying how much money you need to invest to achieve your goals.

There are various ways of investing but it is better to do it in a systematic manner. You can invest as a monthly fixed investment amount or invest annually with a fixed percentage of investment increasing per annum.

SIP - 7900 per month invested for 7 years will give you a return of 10,14,000 @11.2 %.

Lumpsum-

This method can be a bit complicated when followed step by step especially the last step of computing the actual amount that one needs to invest to achieve their respective goals. However, it is the most defined way of achieving your goals. There are many software used by us - financial advisors where the software does the same calculation for us. When you will sit with an honest financial advisor, the first thing that they will ask you is to define the goal. There is no plan without a goal and hence, such a working is extremely important for your financial planning.

Investments / Money tips - 11/15/2018
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Passive vs Active Investments

Have you heard about Index Mutual Funds? Are you aware of the concept? We have discussed the same below Active Fund Mutual funds are distinguished into 'active funds' and 'passive funds. Active are those funds where fund manager plays a bigger role to ensure that the fund earns more than the set benchmark. For example, most equity funds will have either the Sensex or the Nifty index as benchmarks. The fund managers believe they have the ability to select stocks and time the market in a manner that makes the returns on their portfolio higher than what the market gives over a specific period of time. Passive Fund Passive funds are also called as 'index fund's. And as it goes by name, the only aim of these funds is to mimic an index. These funds invest only in scrips that are a part of the index and in exactly the same proportion as they are in the underlying index. For example, a passive fund on the Nifty index will buy all 50 stocks in the Nifty in the same proportion as are held by the Nifty. Each time a stock is taken out from or added to the index, the fund will do the same. On a day-to-day basis, this makes lesser work than managing active funds. Investors can expect almost the same return as the index though there will be a small difference between an index fund's performance and that of its benchmark. This is called tracking error because of the various cost it incurs (brokerage, advertising, marketing, etc.) and the small cash component that every index fund keeps to meet redemptions.
                                                                                              Active or Passive? Which one do you intend to choose?
Should you select ACTIVE OR PASSIVE Funds? The costs in a passive fund are lower than an active fund due to the lower churning of the portfolio and no research required to run such a fund. Typically Index Funds have a fees of 1% of the Assets Under management(AUM). The fees charged by Active Funds vary from 1.50% to 2.25%. As an investor, you need to see if the higher expenses are justified by higher returns from the Active fund because over a long period the higher expense ratio can have a large impact on your returns. The level of risk in investing differs from one fund to another based on their investment objective. Active funds are more risky compared with passive funds since you are taking the risk of a fund manager taking stock calls that may go wrong. Within index funds also, funds mimicking broader indices are less risky than those that mimic a sector or a market segment. For example, the risk is lower in a Nifty Index compared with an index on the Banking Index or the Junior Nifty. Passive Funds (Index Funds) are best suited for the risk-averse investor. However, the clearest disadvantage of passive management is that at times, even if you do not want to participate in a particular stock or sector, you end up participating by investing in the index funds. In an emerging market like India, passive funds may not be the best of the options as many Active Mutual Funds have consistently outperformed the underlying index in the past 15 years. One may, however, consider having an Index Fund in his portfolio to reduce the overall volatility.
Mutual Funds - 11/10/2018
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Why you should not buy financial products from your banker?

The simplest answer to this question is that, more often than not, the banker is more interested in the product than he is interested in you. To illustrate this better, we have discussed a few examples below: Say you have been a customer of a particular bank from 2008 tillBelow is what you would have typically experienced over this period of time. Your first job, 2010: Sir, along with your salary account, we are offering you a credit card, free of cost. There will be no annual charges and you can enjoy a credit limit of INR 50,000. Along with this we are offering you this "Investment product" which gives higher than market returns, especially for our customers. To make it easy for you, you can pay the yearly premium in 12 equal interest free installments using the credit card. (With this, he introduces you to the world of credit cards plus has latched you on to an investment product mostly a ULIP product (link on ULIP article) without you properly understanding the product. What he doesn't tell you is the charges involved in delayed payments on the credit card, neither does he guide you as to how you can be a disciplined credit card user!) 2008, with the markets soaring or currently when the markets are doing  very well: "Sir, XYZ Mutual Fund has come out with a New Fund Offer (NFO). The new Fund promises very good returns since they are focusing on the Infrastructure theme which will give very high returns over the next few years." "Sir, ABC Mutual Fund has come out with a New Fund Offer (NFO). The new Fund promises very good returns since they have a "new strategy" where they will identify "superior growth" stocks and generate superior returns." (What he doesn't tell you is the risks involved in investing in equities and that he is selling you a product which doesn't have any track record of good returns!)
                                                                                                                                       Take an informed decision
Immediately after the 2008 crash: A period of silence from your banker. Obviously, he doesn't want to bring up the returns from the ULIPs and NFOs he sold to you earlier in the year! 2009, post ban of entry loads on MFs: Sir, this is a unique investment product. It not only gives you high returns by investing in Equities, it also gives you an insurance cover. (What he doesn't tell you is that ULIPs hardly take care of your insurance requirements. Neither does he elaborate on the various charges on the ULIP products!) 2010, post reduction in commissions on ULIPs: Sir, you should invest in this product. If you invest INR 25,000 per year you will get INR 13,70,000 tax free after 25 years and also an insurance cover of INR 10,00,000. (What he doesn't tell you is that the rate of return is a partly 6%!) I guess many of you (irrespective of your age group!) will be able to relate to the above experience. It clearly demonstrates that your banker is more interested in selling the product that earns him the maximum returns with no consideration to what is the right product for you. He sees the immediate short term benefits for himself from the sales made to you. Why think like your banker and look at the short term? Think long term. Hire a Financial Planner, pay him a fee to give you the right advice and invest in the right investment product. Over a period of time, the benefits from investing in the right financial product far exceed the fees you pay your Financial Planner. Again, think long term. Educate yourself! It is very important in today's time, when there is a pool of information everywhere but no good data, learn and understand and take an informed decision, rather than just following someone blindly. It is your money, if you will not treat it right, why would a banker do that. PS: There can be exceptions to the above kind of bankers. But, more often than not, the story is the same everywhere.
Money tips - 10/27/2018
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Mutual Funds: Pros and Cons

Over a period of time Mutual funds have become a very popular investment vehicle in India. The reasons for the popularity of mutual funds among investors are many: 

Professional Management

Qualified Professionals manage the Mutual Funds and attempt to maximise the returns and minimise the risk within the stated objectives of the Mutual Fund Scheme. 

Diversification

This is the biggest advantage of investing in a mutual fund, especially for a small investor. This ensures that the investor is not exposed to the risk of a single sector and is not dependent on the performance of one company.

INNUMERABLE ADVANTAGES

Low Costs

An investor can get exposure to professionally managed Mutual Fund investments for as low as Rs. 500. They can get exposure to big tickets investments(like some Fixed income instruments) through Mutual Funds. Also, SEBI has capped the maximum amount that can be charged as an Expenses to the fund based on the fund size.

Liquidity

Mutual Fund Schemes held by an investor are very liquid. They can be redeemed at the NAV of the Scheme which is declared every day and the redemption proceeds are received by the investor in T+2 days i.e. within two days of the date of redemption. 

Choice of schemes

An investors can make a choice from a large number of Schemes so that the investments match with his objectives and goals. 

Flexibility

Within Schemes, investors are provided with a number of options like Growth Option, Dividend Option, Reinvestment Option, Systematic Investment Plan (SIP), Systematic Transfer Plan (STP), Systematic Withdrawal Plan (SWP), etc.

Mutual Funds have come out with a number of innovative products like Trigger facility, transfer of equity gains to a debt scheme, etc. to satisfy the needs of the investors. 

Transparency

This has increased the confidence of investors in the Mutual Fund Structure. Information is available to investors through fact sheets, offer documents, annual reports, periodic investment statements, etc. on a periodic basis.

Taxation

Dividends received from equity schemes of Mutual Funds (i.e. schemes with equity exposure of more than 65%) are completely tax-free. Equity schemes held for more than one year do not attract any capital gains tax on redemption. 

Well Regulated

SEBI Regulations govern the mutual funds industry and protect the interest of investors. This also ensures transparency in the operating of the Mutual Fund. 

DISADVANTAGES

Though very less compared to the advantages, Mutual Funds suffer from the following disadvantages:

(a) In case the manager does not perform well, the fund may give returns lower than the index.

(b) The investor has to pay a management fees and other expenses even if the fund gives negative returns. Returns are not guaranteed.

(c) Investors have no say in their portfolio as the same is managed by the AMC as per the scheme objectives and customisation for an individual investor is not possible.

Investments / Mutual Funds - 10/03/2018
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Risk Involved in Investing in Debt

Risk refers to uncertainty in returns. Debt instruments are considered less riskier than Equities because there is a lesser uncertainty in the returns one can expect from Debt Instruments. Never the less, following are the major risks are involved in investing in Debt Securities.

Interest-Rate Risk

Fixed income securities such as bonds, debentures and money market instruments face interest-rate risk. Generally, when interest rates rise, prices of existing fixed income securities fall and when interest rates drop, prices of fixed income securities increase.

For example: If a Rs. 100 par value security offers 9% rate of return, and the prevailing rate of interest increases from 9% to 10%, the values of the security will fall below Rs. 100 because it offers a lower rate of return(9%) compared to the market return(10%). The extent of fall or rise in the prices depends on the existing coupon rate, time to maturity of the security and the quantum of increase or decrease in the interest rates.

Credit Risk

In simple terms this means that the issuer of a debenture/bond or a money market instrument may default on interest payment or in paying back the principal amount on maturity. Even if no default occurs, the price of the security may go down if the credit rating of the issuer of the debt instrument goes down.

Investment in Government securities has zero Credit Risk as the Government is not expected to default on its obligations.

Liquidity Risk

This refers to the ease with which a security can be sold at or near to its market value. Liquidity risk can be measured by the difference between the buy price (bid price) and the sell price (offer price) quoted by a dealer. Larger the difference, greater is the Liquidity Risk. Indian Debt market has a higher Liquidity risk compared to Global Debt market, because of low trading volumes in the Indian Debt market.

Reinvestment Risk

If interest rates fall, the coupon payments being received on fixed income securities will have to be re-invested at the lower prevailing interest rate. This is known as Reinvestment Risk.

For example: If you are receiving 9% coupon on a fixed income security, and the prevailing interest rates are 7.5%, the coupon payment received will have to be invested at the lower rate of 7.5%.

As zero coupon securities do not provide any periodic interest payments they do not have Reinvestment risk. However, they have a higher interest rate risk.

Debt / Investments - 09/24/2018
choose ur fund

Open-Ended and Close-Ended Funds

The Indian market has begun to realise the potential of mutual funds as the most advantageous avenue for exposure to equities. Mutual funds are going to be your money partner for the rest of your life. It is worthwhile to spend a little time for understanding some basics related to mutual funds. We have already touched upon the types of Mutual Funds on the basis of the investment objectives (Equity, Debt, Gold, etc.). Another distinction in Mutual funds is based on the length of time for which the fund is collecting money. The two categories are Open-ended and Closed-ended funds. An Open-ended fund has a perpetual lifespan-Ended and you can invest in the fund or redeem your investments at any time. As inflows are unlimited and, typically, unrestricted, there is no limit to what the corpus can grow to. At present most AMCs prefer to launch has funded as it helps the AMC garner money A close-ended fund restricts the inflows to a specified period. They are open for subscription for a few days from the date of their launch. The Fund stops accepting funds from the public, once the subscription period ends. However, to ensure liquidity, the fund houses list their closed-ended schemes on a stock exchange. The number of outstanding units of a closed-ended fund does not change as a result of trading on the stock exchange. Apart from listing on an exchange, these funds sometimes offer to buy back the units, thus offering another avenue for liquidity. SEBI regulations ensure that closed-ended funds provide at least one of the two avenues to investors for entering or exiting.
                                                                                                                Choose the Fund to suit your purpose
Close-ended funds, by their feature, come with a fixed tenor ranging from 3 months to over 3 years. Most Close-ended funds are Debt Funds. Fixed Maturity plans launched with a fixed tenor, is the best example of a Close-ended Fund. It is not uncommon for Fund Houses to launch Close-ended Equity Funds. Such funds help the Fund Manager invest as per the market cycle and prevent the investors from cashing out in case of adverse market conditions. Once the fixed period for the close-ended fund gets over, the maturity proceeds are either repaid to the investors (typically, in the case of debt funds) or the close-ended fund is converted into an open-ended fund (typically, in the case of an equity fund). Once converted to an open-ended fund, the fund is open to subscriptions and redemptions like any open-ended fund. Close-ended schemes are traded on the stock exchange in comparison to the open-ended schemes. Also, close-ended schemes have different pricing as compared to the price you buy because they are traded on the exchanges. Different periods of time in the last 20 years have seen open ended and close ended funds change in popularity with the AMCs. In the early years of the mutual fund industry, fund managers were not sure if investors would stay invested in the fund. Due to this uncertainty on account of investor behaviour, most schemes launched in 1990s were closed ended schemes. With the growth and maturity in the market, fund managers gradually moved towards the open ended schemes. Funds switched to launching closed ended funds in 2006 and 2007 due to a cost advantage as the closed ended funds allowed to charge initial marketing fees from the investors. With changes in SEBI regulations, that advantage no more exists and currently AMCs launch open ended or closed ended funds keeping in mind the purpose of the fund and investor requirements. What, then, should be kept in mind by the investor while choosing between the two kinds of funds? Close-Ended Debt funds begin with a fixed tenure. This enables the Fund Manager to invest in securities in line with the term of the Fund. This reduces the Interest rate risk faced by the investor as the investments in the Fund are held till maturity. In case of Close-ended Equity fund, the manager knows the size of the corpus he has to manage. Another advantage is that there are no redemptions from the fund during its tenure. The Fund Manager need not hold excess cash in anticipation of redemptions. However, there is no proof to show that Close-ended funds have performed better than open-ended funds.
Investments / Mutual Funds - 09/10/2018

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