Tag - compounding

June 2016

Types of Investors – What type are you?

Types of Investors , Conservative, Aggressive, Risk taker, Risk Profiling, Risk Averse, Savers, Specialists, Speculators

I came across this good article at http://www.threetypes.com/philosophy/investor-types.shtml and wanted to share. It essentially discusses the various types of Investors viz : Savers, Speculators and Specialists and then goes on to explain how becoming a Specialist, is something which generates immense wealth over lesser periods of time , but which also requires tremendous efforts on the part of the investor.

Go ahead and decide which type of investor you are and then invest accordingly. Enjoy Investing…..

Savers

Savers are those people who spend the majority of their life slowly growing their “nest egg” in order to ensure a comfortable retirement. Savers explicitly choose not to focus their time on investing or investment strategy; they either entrust others to dictate their investments (money managers or financial planners) or they simply diversify their investments across a number of different asset classes (they create “a diversified portfolio”). For those who create a diversified portfolio, their primary investing strategy is to hedge each of their investments with other “non-correlated” investments, and ultimately generate a consistent annual return in the range of 3-8% (after adjusting for inflation). Those who entrust their money to professional money managers generally get the same level of diversification, and the same 3-8% returns (minus the management fees).

Savers seek low-risk growth of their capital, and in return, are willing to accept a relatively low rate of return. While there is certainly nothing wrong with striving for consistent returns, what the Saver is doing is really no different than putting their money in a Certificate of Deposit, albeit with slightly higher returns. The bulk of Savers are investing for long-term financial security and retirement. They start saving in their 20’s and 30’s by putting money in 401(k) accounts, mutual funds, and other diversified investments, and in 30 or 40 years, they have enough to retire on.

Savers rely in a single force to grow their capital: time. Because their rate of return is generally consistent, a Saver’s primary mechanism to achieve wealth is to invest and wait. In fact, Savers often use The Rule of 72 to calculate long-term investment growth and plan their retirement. While passive investing is an almost surefire path to a comfortable retirement, it also generally means 30-50 years of work to get to that point.

Speculators

Unlike Savers, Speculators choose to take control of their investments, and not rely solely on “time” to get to the point of financial independence. Speculators are happy to forgo the relatively low returns of a diversified portfolio in order to try to achieve the much higher returns of targeted investments. Instead of just spreading their money across stock funds, bonds, real estate funds, and a variety of other asset categories, Speculators are always looking for an investing edge. Perhaps they get a hot stock tip and try to cash in on the next Google. Or perhaps they hear about all the real estate investors who have made a bundle flipping houses, so they go out and buy the first run-down house they see.

Speculators recognize that they can have higher returns than Savers, and are willing to do or try anything to get those returns. They’re not scared to throw some money in an Options account and try their hand at derivatives trading; or run out and buy a bunch of inventory from a wholesaler they know and open up an eBay selling account. Speculators are always looking for the next great investment; for them, it’s all about being in the right place at the right time, and taking a chance on getting rich. If today’s investment doesn’t work out, there will always be another one tomorrow. (more…)

November 2012

Need for Investing early & Power of Compounding!!

Power of Compounding, Investing at an early age, Illustration, Stocks, Mutual Funds, Bonds, Gold,

Well the above mentioned information is pretty basic math. And most of well educated adults would have solved these compounding problems by Class VI, Secondary School. 

Then, why do most of the people miss out on the above basic calculation when it comes to personal investing & money management?

It is similar to other aspects of life to a certain extent. For eg:, Everyone knows  that eating healthy food , staying fit, regular exercising etc. is good for healthy and happy life . But most of the people fall for junk food consistently or religiously spend time lazying in front of Idiot Box etc.

I think that most people underestimate the tremendous power of simplicity & on simple and good things of life in general. Also, it requires a lot of discipline, patience, consistency & conviction. Realize though, that Simplicity is ultimate sophistication.

Discipline and Patience are virtues which requires a lot of mental toughness. It is people with these virtues, more important than Intelligence or IQ, who successfully achieve their goals and much more than what they initially set their eyes on.

Moral : Markets and Life test patience but reward discipline and conviction.  Happy Long term Investing

 

July 2010

Sensex touches 18000 again , two kinds of investors, two different views ….

chart.

“The investor’s chief problem – and even his worst enemy – is likely to be himself.” ~ Benjamin Graham

Sensex is at 18000 once again.

(A) Many Investors who had invested since 2007  when the markets were around the same levels are not happy. Most of them are waiting to get out of the markets when they are able to get cost to cost. Reasoning — they could have got better returns in Bank FD’s in last 3 years.

(B) Many Investors who invested in Markets in 2009 are super excited as almost all their investments have doubled.  Most of these investors have become developed short term view. They believe that they know everything about markets and they can easily generate good returns time and again. Many want to get out at these levels and reenter at sensex 12000 levels only now. They are experts you see.

Greed and Fear works in both the directions of the markets.

Investors who fall in the above categories do not realize the following fundamental rule of nature which is applicable to markets as well : “THIS TOO SHALL PASS AWAY”.

My view is that investors in either of the above categories will probably never be successful over a investment lifecycle of 3 – 5 – 10 years.  Period. Because the above reasoning of exit from market is based purely on market returns and not based on fulfillment of life objectives. And this kind of reasoning falls in the category of speculation.

Do you fall in any of the categories mentioned above…..

February 2010

Invest Early, Invest Wise, Utilize Magic of Compounding

Invest Early, Invest Wise, Utilize Magic of Compounding, Time value of money.

If you have built castles in air, your work need not be lost; that is where they should be. Now put the foundations under them. —- Henry David Thoureau, Walden.

In the previous post , I had mentioned about the importance of time value of money. Let us see here the impact of the same over a period of time on investments – And why investing early and then making it work for long periods of time makes such a BIG difference.

In this example , Early Investor starts putting aside Rs 10,000 a year beginning age of 22 yrs until the age of 30 and then decides to stop making contributions. Over this time, he puts aside a total of only Rs 90,000.

On the other hand, Late Investor doesn’t start making contributions until he is 31 and puts aside Rs 10,000 a year until he reaches age 65. Over that time, his contributions total Rs 3,50,000.

In both cases, assume that their account grows 10% a year. Despite the fact that Late Investor contributes  almost 4 times , at age 65 his account is hardly 2/3rd as compared to the Early Investor!!!!

This clearly illustrates the benefit of starting to invest early.

The power of time and impact on the the value of money, the benefit of investing with patience and discipline and the magic of compounding is truly amazing.

Even, if it may be late for some of you to maximize your lifetime investment potential, it may not be the case for your children.So, go ahead, start thinking , plan , and invest for long terms with conviction.

You will find the related post on Time Value of Money as interesting as it is one of the most important concepts in finance.

What is Time Value of Money

What is Time Value of Money

“A bird in the hand is worth two in the bush” – Miguel de Cervantes

The time value of money is one of the most important concepts in finance. Money that is in possession today is more valuable than future payments because today’s money can be invested to earn positive returns in future.The understanding of Time Value of Money leads to better decision making in some of the major financial decisions like — calculating sum assured requirements for your life insurance needs, computing monies which will be required for child education/wedding in future, corpus needed to fund retirement, comparing alternative investment decisions, comparing house lease v/s buy decisions, horrendous impact of carrying credit card debts etc.

What is time Value?What is Time Value of Money, Present Value , Future Value, Compound Interest, Time and their Relationship,

Money has time value. The value of Rs. 1 today is more worthy than the value of Rs. 1 tomorrow. This economic principle recognizes that the passage of time affects the value of money. This relationship between time and money is called the ‘Time Value of Money’.

If someone owes you Rs 10,000/- , it is advantageous to get the money today If you get this money today:
–> You could earn interest and invest it and you will receive this quantity plus some other amount in the future.
–> You can use it to pay your debts and therefore, lower the interest amount paid on your debt.
–> Or you can spend it and enjoy it as you wish.

Understanding Present Value , Future Value, Compound Interest, Time and their Relationship:

A sum of money today is called a present value (PV). A sum of money at a future time is termed a future value (FV).

The time period in between the present and future value can be no of years, no of months, no of quarters or any unit of period. (n).

The interest rate or growth rate in which the present value can be employed . This is the interest rate per period.(i) The effects of value versus time is best usually described by compound interest. Change in Value over time is impacted by factors like inflation, tax rates , discounting rates etc.

Future Value is calculated as follows : Future Value (FV) = Present Value (PV) * (1 + i) ^ n

Alternatively, given a future value then,

Present Value can be calculated as follows : Present Value (PV) = Future Value (FV) / (1 + i) ^ n

Compounding

Compounding is the mathematical procedure for determining “future value” and is virtually the reverse of discounting

Discounting

Discounting is the mathematical procedure for determining “present value”.

Some Examples :
1. If you invest Rs 1,000 today at an interest rate of 10 percent, how much will it grow to be after 5 years?
FV = 1000 * (1 + .1) ^ 5 = Rs 1,610.51

2. If you were given an option to get Rs 1,00,000 , six years hence OR option of receiving Rs 55,000 now. What will you choose.
In this case, you bring down the future value to the present value and then make a decision (or judgement). Let us assume a discounting rate of 12%.

So, PV = 1,00,000 / (1 + .12) ^ 6 = Rs 50,663.11.

Option A Present Value comes to Rs 50,663.11 and Option B is Rs 55,000. And the choice becomes obvious. In this way different rates can be used to make alternative quality decisions and arrive at decisions quantitatively.

3.If you invest Rs 11,000 in a mutual fund today, and it grows to be Rs 50,000 after 8 years, what compounded, annualized rate of return did you earn?

Using the above formula again : FV = PV * (1 + n) ^ i
50000 = 11000 * (1 + n) ^ 8 ; So, n = 20.84 % (Wow!! — This is a good investment)

4. Rule of 72 (Quick!!! — )

How long does it take to double Rs 5,000 at a compound rate of 12% per year (approx.)?

Approx years to double = 72/ i% (Cool!!)

In the above case it will be = 72/ 12% = 6 years. (This is rough, Actually it will be 6.12 years)

Thus, Your ability to measure time value of money can be THE vital difference between your making a good or bad investment decision.