Having a small house can save you a lot of money.....

Some time back on this December post of Friday Financials I had talked about how we own real estate as it has a strong emotional appeal and pride of ownership. In this post I would like to take it forward and share my perspective on this important decision we all make/will make in our Financial lives.

Frankly speaking I am not a big fan of the Kingfisher Villa or Mannat, not for the reason that I do not have a house like that but due to the(emotional) fact that I like simple things, like watching my kid's never ending creativity, observe my parents (and thank them) for their great value addition in my life and share thoughts and spend time with my wife. 

So, if you are shopping for a house, the size of the house makes a key component of your decision. ‘Living life king size’, ‘Living Large’ or ‘Living Bigger’ does not definitely mean living better, and ‘going smaller’ does not mean sacrificing.

WHY BUY A SMALL HOUSE/APARTMENT… 

A small house can save your money in many ways. Buying a small house is comparatively much cheaper than buying a large one. Besides this, there are a host of other financial perks attached to a small house/apartment.

1. Easy to build/purchase – The main expenditure in building a house is the land cost. A small house allows a person to have a smaller budget. A person can buy a small land near to city amenities and save lot on transportation and safety. If he is buying by way of a housing loan the outgo will be less in the form of interest payments.

2. Higher transaction time – It’s a global phenomenon that small property is sold in less time than the large one. This is because it is affordable and supply side of buyers is more. So in case of analyzing the relative liquidity, a small house is easy to sell and purchase.

3. Lower property taxes & property insurance cost – We generally fail to consider property taxes while purchasing large houses. Property tax is based on assessed property value and property value is based on price per square foot/meter. It is comparatively lower for small houses. Similarly the insurance cost for a small house is also low. Although insurance depends on a lot of other factors, but area is one of the major considerations.

4. Lower cost of maintenance - Small houses are easier and economical to maintain. For example, there would be savings in the material used and time in painting/whitewashing the house (due to less space) than a large house. Similarly replacing the floor tiles would definitely cost less in a small house. Further, there would be savings in purchasing cleansing materials as there is less space to clean. Also, there may not be requirement of domestic help or will require less aid to clear the mess of the house, thus saving on the monthly budget.

5. Less documentation - To build small houses, some of the building related permits are not required. This depends on state policy on housing. These include setbacks, side walls, parking space, height of building and story levels. But for a small house the documentation and required approvals will be less. Thus you can save valuable time and money required for seeking these building permits.

6. Lower utility bills - There would be great downsizing in electricity bills, water bills, etc. in case of small houses. Even the installation cost will be less as you will require a kw/h connection. Few rooms would mean less lighting and cooling cost, thus overall saving on the energy front(also environment friendly). 

7. Lower ongoing medical cost- There are various reasons to prove that small homes may be healthier than large homes. Firstly, since small houses are cheaper than large ones, it reduces the financial stress on the house buyer. A person need not take huge loans and the stress to pay them off for buying small house. Secondly, it is easier to clean small houses. A clean house can avoid major diseases which are spread because of unhealthy surroundings like contaminated water, dusty spaces etc.

8. Save money on frivolous living- A small house has less storage space, hence you would purchase only those items that you actually require. You will not be interested in buying unnecessary plastics and wood. In fact you will be tempted to sell off things that you don’t require to keep the space free. Smaller spaces help in generating creative ideas to maximize utility of every square inch of the house. 

Thus the advantages of a small house over a large house are pretty obvious and inspiring to those who believe in economical and simple living without much stress. Warren buffet advocates that “affordability” should not mean “expenditure”. It means that, even though you can afford, you should not pay more for what is not required. 

He has practiced what he has preached and has been living in the same house he used to live when he started his career.

Ninad Kamat

CERTIFIED FINANCIAL PLANNER^CM

www.letsmakeaplan.in

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Image source: phanlop88 at FreeDigitalPhotos.net

Data Source: the financial literates.

Learning About Long-Term Thinking from Farmers

This week I have decided to take a break from writing.

Instead I will guide you to this link where Carl Richards of BehaviourGAP shares his view on long term thinking. I found it amazing and hope you do too!!

See you next week....

Investor Behaviour.........Demystified!! After all common sense prevails....

About 5 years back we were addicted to watching a popular business news channel, almost daily in our office. And our clients and prospects used to drop in and share their insights about a particular company or the markets. What was noticeable was that, while most of the views were followed by lot of details and research reports, there were some investors who used simple common sense and paid no heed to these expert comments when they came to invest. 

One such investor (that I will always remember) invested in a pharma sector fund(where investments are made in shares of pharma companies). His simple logic was that, every time he visited a pharmacy there was a huge rush for procuring medicines. Today he is a very happy investor, obviously as his investments have earned handsome returns.

In a country where our investments are measured by the very popular (car maker tv commercial) saying:

"कितना देती हैं" (what are the returns?)

it is very difficult to let go of ones emotional attachment towards investments, after all it’s human nature to be emotional, and life is richer because of this. But it reduces investment returns. We make systematic errors in investment thinking, due to our emotions, egos and innate cognitive biases.

We suffer from confirmation bias, tending to seek out and find evidence to support our position rather than evidence that might refute it. We think too much about risk, resist admitting mistakes and hold grudges for too long.

Invest in what you understand.Have a circle of competence, and stick to it. An investor needs to do very few things right as long as he or she avoids big mistakes, and staying within your circle of competence is one of them. Every investment product has factors which are knowable, unknowable, important, and unimportant; investing in products for which the important factors are knowable is recommended.

Invest in yourself.
Consciously choose to develop the positive traits in you, to become the kind of person others would want to invest in. Best of all, when you invest in yourself, you won’t just get 10% of the benefit, you’ll get the full 100% this is possible if you have clear Financial Goals. Once you have set your goals, your thought process will be transparent than ever before. This will ultimately allow you to realize your full potential.

Warren Buffett is a perfect example of rationality. His investment decisions are insulated from such emotions. He has said he’d never give up a good night’s sleep for a chance at a slightly better return. He thinks long term and so he doesn't panic.

To invest better, become a student of human psychology. Learn how emotions lead to cognitive errors, so that you can avoid those errors and benefit when others make them.


Ninad Kamat CFPCM
www.letsmakeaplan.in
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Sketches are sourced from Carl Richards of behaviourgap and are used with prior permission of the creator. They are subject to copyright.
Source: Investing lessons by Warren Buffet.

SIP - The Smart Investor's Preference

It is about 10 years since we moved into our new house and one of the(important) things that we neglected was our garden. It was in a mess. For the last couple of  months we have been working to improve and organise it and finally we are successful. Soon we realised that setting it up was the easy part, what's difficult was to maintain it. Especially watering a variety of plants, almost on a daily basis required both time and effort. Fortunately we came across 'Drip Irrigation' - a method mostly used by large farms where watering the crops is a herculean task and the costs involved are also quite high. 

What Drip irrigation does is, it slowly 'invests' water in the plant drop by drop thereby reducing wastage and saving valuable time and effort. It also brings a lot of discipline, as each plant requires different amounts of water and you can actually preset the drips to obtain desired water levels.


Finally, from the lap of the nature to the world of personal finance.

How to effectively use SIP for your financial Goals.

Step up the SIP on a yearly basis. 

Although SIPs allow you to invest a fixed sum every month, it does not mean you stick to this amount over the entire tenure. As your income rises, your savings will also go up. The SIP amount should also increase in the same proportion. The surplus savings need not be directed to an SIP in another scheme. Instead, you can simply increase the allocation towards the existing SIPs.

Use systematic transfer plans:

When you have multiple SIP's running at the same time, keeping track of the outflow and ensuring availability of funds can become a tedious task, especially if you are using different accounts. Maintaining a high balance in the savings account is not advisable as it does not fetch very high returns. A better option is a systematic transfer plan (STP).

Under this, the investor puts a lump sum in one scheme and gives instructions to transfer a fixed amount to another scheme at regular intervals. The lump-sum investment is usually in a debt fund and the destination is usually an equity fund. Typically, carrying out an STP from a liquid fund to the chosen equity funds is advisable.

SIP is like Drip Irrigation, you need to slowly invest, maintain discipline and command patience, so that your investments can grow and meet your financial goals. And don't forget, SIP is perhaps the best available asset allocation tool too. 

"बूँद बूँद  से घड़ा भरता हैं "

Ninad Kamat CFP^{CM
www.letsmakeaplan.in}
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Mutual Funds.....Perception - Risk & Volatility.....Reality - Asset Allocation (Part II)

Never put all your eggs(investments) in one basket..... this timeless saying simply describes Asset Allocation in the best possible manner.

It is said that the biggest factor in determining financial success is Asset Allocation.

What is Asset Allocation?

Asset Allocation simply means investing your money in different categories of assets, - typically Equity, Bonds/Fixed Deposits(Debt) and cash equivalents such as saving accounts and money market funds(liquid funds)—so that your investments are well diversified.

Ultimately, the objective of a good asset allocation plan is to develop an investment portfolio that will help you reach your financial objectives with the degree of risk you find comfortable. A well-diversified plan may not outperform the top asset class in any given year, but over time it may be one of the most effective ways to realize your financial goals.

How can AA help you?

1. Reduce Risk: Portfolio diversification may reduce the amount of volatility you experience by simultaneously spreading risk across many different asset classes.

2. Improve Your Chances to Earn More Consistent Returns Over Time: By investing in several asset classes, you improve your chances of participating in gains, and lessen the impact of poor performing asset categories on your overall portfolio returns.

3.Stay Focused on Your Goals: A well-allocated portfolio alleviates the need to constantly adjust investment positions to chase market trends, and can help reduce the urge to buy or sell in response to the market’s short-term ups and downs.

Does AA really work?

Yes. In addition to helping reduce overall volatility and improving your chances to earn more consistent returns over time, keeping assets properly allocated helps you avoid the temptation to try to time the market. An asset allocation strategy can be extremely valuable in helping you sort through these opportunities and, ultimately, make sound investment decisions that are consistent with their financial goals.

It is important to note that asset allocation requires regular maintenance. Occasionally, you may need to re-balance your portfolios (i.e., return them to the original mix of Equity, Debt and cash), as target asset allocations can shift, either naturally or due to market movements, and cause your investments to fall out of alignment with your goals and/or risk tolerance. When to consider re-balancing depends on a variety of factors, but a good rule of thumb is to designate a set time interval (e.g., every 12-36 months).

Mutual Funds as an Effective Asset Allocating Tool

Mutual funds can be a very effective, and simple, asset allocation tool, sparing you of having to build their own portfolios of individual investments — a more expensive and time-consuming task best left to the professionals.

For starters, many funds make asset allocation central to their investment objective. Relying on their rigorous research capabilities and investment expertise, fund managers can differentiate between the market segments that afford greater appreciation potential and those that have less compelling prospects. What's more, they generally have a more acute understanding of how different securities or funds work together, which is critical to understanding, and then effectively managing, total risk.

Conclusion

Behavioral finance has shown that the human mind seeks patterns to feel a sense of control. In investments its natural to have an attachment or liking towards investments that have done well in the past, particularly in the immediate recent past. This leads to chasing winners, but there is compelling evidence that winners rotate, i.e. no asset class will perform better on a sustained basis. It is now very much evident that chasing winners will only reduce returns and as a result will under perform a well prepared asset allocation plan in terms of risk adjusted returns. Choosing MF's will offer you the best possible product mix to create a great and winning asset allocation strategy.

Let us together leave behind our inhibitions about Mutual Funds and make it our No.1 investment avenue. 

Ninad Kamat CFP^{CM
www.letsmakeaplan.in}
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Sketches are sourced from Carl Richards of behaviourgap and are used with prior permission of the creator.
They are subject to copyright.

Mutual Funds.....Perception - Risk & Volatility.....Reality - Asset Allocation (Part I)

Right from the first post on Friday Financials, I have tried to stress upon three very simple yet very very important concepts in Financial Planning.

1. Goals

2. Compounding

3. Inflation

In this post I would like to add another concept of 'Asset Allocation' to the Financial Planning Process and what better product can I choose other than Mutual Funds(MF's) to further my case.

Did you know that this is the only (transparent) product, with a well diversified basket of options, having low management costs, which can be directly linked to your financial goals?

For example:

1. You want to create an emergency fund: Invest in a MF's liquid fund, this not only offers better tax adjusted returns than your savings account but also protects your principal investment.

2. You want to save for your retirement: Chose a balanced fund. This should help you combat inflation and generate wealth at the same time...after all, you are saving for your retirement right?

Also, Long Term Gains from investments in Equity MFs are tax exempt and you can avail of indexation benefit on Long Term Gains on Debt MFs (both subject to IT rules)

But wait, despite all this why aren't MF's the No 1 choice of Indian investors?

Perception: MF's offer only Equity related products.

Reality: Various Debt(fixed returns) related options, with variable maturities are also available within MF's.

Perception: MF's are subject to market risk please read offer document before investing.

Reality: After investing in Equity MF's(for long term) only do you realise, that risk and return go 'hand in hand' and thus help achieve your long term financial goals.

Having said that, Asset Allocation(AA) plays a crucial role in the financial planning process, may it be for short or long term financial goals.

To be continued.........

Insurance = Insurance

Welcome all, to the new year 2014.

What an unusual title to this post you might think...but the truth is that most of us have not insured ourselves adequately, neither life or health wise. We have just made Investments in the name of Insurance, without even considering whether our Long Term Financial Goals will be met through these "investment" choices or not.

Why do we "invest" in Insurance?

1. For generations together Insurance Agents have been brainwashing investors into thinking that taking a simple term cover is a stupid thing to do.

2. Advertising and marketing has reached newer highs (bringing newer lows to investors)

3. There is a fixation for "guaranteed returns"

This year though, things are different. IRDA(the regulatory body of Insurance products in India) has implemented various changes which has forced insurance companies to change their product structures and offer "newer and better investor friendly products".

But seriously, I do not wish to talk and waste this space on these changes, simply because, the fact remains that all of us really need two types of Insurance products in our lifetime...

If a child, a spouse, a life partner, or a parent depends on you and your income, you need life insurance.

Suze Orman 

How to calculate your life Cover:

1. Assess time left for your retirement.

2. Cover your debts/loans so that they can be paid off straightaway. Home loans already have this provision.

3. Provide for future expenses by estimating inflation, including education for children.

4. Estimate what living expenses are going to be and the investment needed to yield that much return. 

OR

You could use this simple excel tool to calculate how much life cover you require.

Once this is done you can go to step 2 i.e taking a mediclaim/health insurance cover.

Health insurance should be a given for every citizen.Jesse Ventura 

Health care costs are escalating at a much higher rate than inflation. In 2013 they were up by 22%, needless to say, having a family health cover is a wise choice, unless you would like to destroy your savings by paying medical bills.

As a thumb rule a basic family cover of at least Rs.5 lacs is very much recommended. What more, you can claim a tax deduction for the premium paid(subject to IT rules).

Fun is like insurance; the older you get, the more it costs.

Kin Hubbard 

All aspects of a Financial Plan are interlinked, if you buy insurance as investment then your fixation for Guaranteed returns will ultimately pinch you very hard in the pocket, not necessarily right away but surely in the years to come. More importantly, buying illiquid insurance products will only diminish your choice of savings.

Buy Insurance as Insurance only and not as an Investment.

Ninad Kamat

CERTIFIED FINANCIAL PLANNER^CM

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Image source: http://www.ahealthiermichigan.org

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