Wednesday, November 22, 2006

Start Young And Watch It Grow


Here's a lucid and extremely readable article by Dhirendra Kumar, CEO, Value Research


Sunit, a friend of one of our colleagues, is a young bachelor in his early twenties who has just landed his first job. His aim, be it in his social life, the car he drives or branded attire, is to "live life king-size".

And why not? After all, this is probably the only time in life when one's financial liabilities are zilch, with little or no contribution towards household expenses.

Now we don't want to sound like a wet blanket and say that Sunit is probably committing a huge financial mistake here, but the fact is that he is not being very money savvy.

With limited financial liabilities - in his case, none at all - and the ability to take a higher risk, the situation could not be more conducive to saving. In fact, the potential to save will never be higher than it is now. No dependents, no household expenses, no liabilities, and with age on his side, Sunit is in a win-win situation.
Unfortunately, the newly-acquired financial freedom for someone like Sunit induces lavish spending. The underlying thought process would go something like this: "I've just started to earn and I have decades ahead of me to save. What's the hurry?"

Sure! No hurry. But procrastination on this front can prove to be very costly. Want to know why? Because money saved in the first few years of your life contributes the maximum to your overall wealth. So logically, the earlier you start, the wealthier you are likely to be.

Let the math prove our point.
Monthly investment = Rs 5,000Tenure = 30 yearsReturn = 12 per cent per annumResult: Rs 18 lakh invested over this period would have grown to Rs 1.75 crore. Now do the same exercise by knocking out the first five years. Result: Your wealth is now cut down by more than 46 per cent. Quite an eye-opener, isn't it? The Rs 3 lakh saved in the first five years contribute as much as Rs 80 lakh to your overall wealth of Rs 1.75 crore.
We rest our case.

Action plan Make a commitment to invest at least 15 per cent of your salary each month. Gradually try and extend it to 25 per cent. This won't curb your lifestyle too much and will get you on the path to financial freedom.

Be an aggressive investor. There is not likely to be any significant capital expenditure in the near future and, therefore, an all-equity portfolio is recommended.Within equities, you can be more aggressive by allocating higher percentages to mid-cap oriented funds. For tax saving, you can look at a couple of Equity Linked Savings Schemes (ELSS). You can narrow down to five or six equity funds of different investment styles.

Since there aren't likely to be any financial dependents, there is no need to go for life insurance at this stage.

For your liquidity and emergency cash requirements, adequate money must be kept aside. A widely recommended thumb rule is to hold an amount equivalent to three to six months of your living expenses. This money can be kept in a savings account and a portion of it even in a liquid fund. If your bank has the option of linking your fixed deposit to the savings account giving you the flexibility to break it anytime, then explore that option too. The idea is to have funds readily available to meet sudden expenses and not having to resort to selling your equity investments.

Lesson to be learntStart now, however small the amount, and be aggressive. This is one time when you can cut your cake and have it too.
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