You have learnt about the operations of the securities market, the characteristics of various investment avenues available to you, the concept of time value of money, the basic models of security evaluation, the approach of fundamental analysis, the tools of technical analysis, the insights provided by modern investment research, and the ways of resolving the key issues relating to the process of portfolio management. It is time now to translate the knowledge, insights, and perspectives gained so far into specific guidelines for investment decision making.
Basic Guidelines-The Ten Commandments:
There are ten commandments of investing which should serve as basic guidelines for all investors. They are as follows:
1. Accord top priority to a residential house.
2. Integrate life insurance in your investment plan.
3. Choose a risk posture consistent with your stage in investor life cycle.
4. Tiptoe through the world of precious objects
5. Avail of tax shelters.
6. Adopt a suitable formula plan
7. Select fixed income instruments judiciously
8. Focus on fundamentals, but keep an eye on technicals.
9. Diversify moderately
10. Periodically review and revise the portfolio.
Accord Top Priority to a Residential House:
A residential house represents an attractive investment proposition for the following reasons:
1. The rate of return, consisting of rental income (or rental saving) and capital appreciation, is attractive (capital appreciation, often, dominates the rental income).
2. The risk exposure is limited. Barring a few bad years, property values in India have been moving upwards. Hence, investment in a residential house does not have much downside risk associated with it.
3. A residential house provides significant tax shelter in the long run. For wealth tax purposes, the value of residential house is reckoned at its historical cost and not the current market value.
4. Loans are available from various quarters for buying/constructing a residential house. Further, interest on loans for buying /constructing a residential house is tax deductible within certain limits.
5. Even though there may be initial hassles when a residential house is brought/ constructed, in the long run it requires very little monitoring.
6. Ownership of a residential house provides psychic satisfaction which other forms of investment may not offer.
Given the above advantages, your first priority as an investor should be to buy a residential site in an area where you plan to settle down and, thereafter construct a house as soon as your resources position permits you to do so. If you are not likely to live in that place in the foreseeable future, the construction of the house can be deferred. It may be noted that the rate of return earned on a wisely chosen portfolio of financial investments can cover the escalation in construction cost, but not perhaps the escalation in land cost. Hence, you should acquire the land as early as possible, preferably through some housing cooperative society, and undertake construction at an appropriate time. If the cost of an independent house is beyond your means, choose the alternative of buying a flat. In metropolitan areas, given the exorbitant land process, this may be the only option available to you.
Integrate Life Insurance into your Overall Financial Plan (Estate plan):
The primary purpose of life insurance is to provide financial protection to the dependents, should the insured die without accumulating wealth. Hence, the need for life insurance is a function of (1) the financial requirements for the dependents, and (2) available resources elsewhere. Ignoring inherited wealth, the need for life insurance varies over one’s life cycle as follows:
From the foregoing it is clear that the need for insurance is high in the age bracket of 25 to 50 years. When your need for insurance diminishes you should consider surrendering your policy.
The primary purpose of insurance is protection, not accumulation of wealth. So choose an insurance policy which provides only insurance and not insurance along with a savings plan. If the insurance policy carries “living benefits” i.e. it provides monetary benefits to the assured while he is alive, it implies that it combines insurance with savings. Such a policy earns a modest tax free return on the savings portion. You can perhaps earn a higher return if you invest on your own. Hence you may be better off with a term assurance policy rather than the more popular endowment assurance policy. However, if you find that the latter policy disciplines you to save more, enables you to get the kind of insurance cover you are looking for, simplifies your investment decision making, saves you from the chores of investment management, and prevents you from squandering your savings, you may consider it favorably.