Where should you be putting your money in 2020?

To begin with let me wish all my readers a very happy and prosperous 2020. I wish this year is a good one for you in your life as well as the financial space. Though I have not written much lately, I saw that yesterday’s post was my 500th one in the blog and that gave me a lot of satisfaction, especially as many readers have told me from time to time that they have found several of my posts quite helpful in their financial journey.

So what does 2020 have in store for us? At a fundamental level one has to realize that the situation in India is a study in contrasts right now. We have a government seemingly under siege but yet acting as though they are in a hurry to get contentious issues pushed through, an opposition that was in disarray but have now got a fresh lease of life due to the controversial decisions of the government, stock markets at a lifetime high yet several stocks are languishing rather badly, big plans on investments in infrastructure and other areas but employment situation and IIP/GDP numbers are poor. In very simple terms we are poised for great growth as a country but the risks that are associated with such growth possibilities are also substantial. The good thing is 2020 will give us a very clear direction as to which way we are going and that will set th tone for the decade.

Where should you be putting your money in 2020? This can be answered depending on whether you are an optimist or a pessimist about the India story. For a long time now the stock markets have been pining to see earning growth for companies and this year will be a make or break year in that regard. Corporate governance and banking regulations have been in the news for all the wrong reasons and the current steps taken for getting these corrected will also come to fruition this year. At the present point in time both debt and equity markets do not inspire a great deal of confidence, real estate is good only in pockets and that is not a good idea for most investors, commodities have their own risk and though Gold has shown good performance it is not a mainline investment choice. So this is the situation you must navigate through to bring your financial ship ashore. Let us see what are the basic strategies you can have in the year, depending on which stage of life you are. I am only discussing strategies here, will do a separate post on product types that you can invest in soon.

  • For people in their twenties who have just joined the workforce and are yet to have responsibilities of family etc, this is the time to take risks. You need to understand the long term benefits of equity investing and put a fair bit of your money there. Do not get into direct stocks unless you are interested in the markets and have time for it. There are several MF schemes that have good performance and portfolio, choose a set of them and invest through SIP. At the same time you should open a PPF account or an NPS account, depending on your inclination. The PF account of the workplace is there by default and you need to keep it going at full contribution. You can look at the idea of buying a house if you are likely to stay in a place for 5 years or so, do not do it otherwise.
  • For people in their thirties who have been working for 8-10 years, family responsibilities would have kicked in, they are likely to be married with 1 or 2 children. Much of the investment choices will be as above with two important differences. Firstly, with the MF SIPs having run for some time now, you need to institute an annual review in order to weed out the non-performers. Secondly, based on the goals coming up in the next decade, plan your debt portfolio in such a way that it acts as a hedge against equity doing badly for a few years. This will also be a good time to buy a house if you will get to stay there for some years.
  • For people in their forties, the chldren would have grown up and either in high school or getting ready for college. While the investment pattern remains the same, redeeming the correct investments for the goals is critical. Normally these will be from your MF SIPs but if the markets have done poorly 2-3 years prior to your goal year then you must look at alternatives. Try to use your Debt portfolio or look at other options such as educational loan etc.
  • For people in their fifties, the children are in college or have graduated from there. Given that you are now in an FI state and may be retiring soon, it is important to create a passive income stream that takes care of your regular expenses. Keep your equity MF portfolio going you need it for beating inflation over the long retirement years.However, you must have easy access to the next 5 years expenditure at all times without having to do a distress sell in equity.
  • For people in their sixties and above continue with the above strategy and keep the equity portfolio going for as long as you can.

People wanting to contact me with any questions or for HELP can write to me at rajshekhar_roy@yahoo.co.uk

2019 has been a listless year for personal finance

From time to time I get a lot of requests from my faithful readers on writing more posts and unfortunately in this year i could not really bring myself to do so. One part of the reason was that a lot of things were keeping me busy but the more important reason was the listless nature of the markets and the general situation in the personal finance space, where conventional wisdom was turned on its head.

To be fair 2019 begun rather promisingly as it was felt the Indian economy was close to turning the corner and there were great visions of the markets really taking off should the BJP led NDA won the general elections. As we now know, the first of these happened but not the second one. The markets welcomed the emphatic BJP/NDA win but were very soon shocked with what the new Finance minister Nirmala Sitharaman brought to the table in her first budget. It belied all expectations and started a free fall of the markets that was completely unexpected. This was aided by other bad news on the NPA and Banking front, defaults in the Debt fund space, international headwinds in the form of US China trade issues and, most importantly, the quarter by quarter poor IIP and GDP data. Towards the end of the year, even political and social stability had taken a real hit with BJP unable to form the government in Maharashtra despite a win and losing Jharkhand badly, along with the nationwide CAA protests.

Some of you might be asking as to if I am being unduly critical of the situation given that Sensex and Nifty are at their lifetime highs now. In order to understand the situation fully, look at the following :-

  • How have your SIP investments in Equity MF been performing over the last few years? The growth in the markets have been muted over the past few years and this has put serious strain on the financial plans of most people, for the long term goals. Most people and planners assume an overall annual return of 12 % over 15 years or so and that is nowhere near happening.
  • Due to defaults by companies on loans etc, Debt products have also come under serious strain. In several cases the FMP payouts were not done properly and reduced rates have not been expectedly beneficial to Debt funds too. 
  • Though the headline NIFTY numbers look good but that is due to a few companies doing well in terms of their prices. Look at a stock like Yes Bank and you will get a far truer reflection of the market risks involved today in investing. 
  • The real problem is of course in the mid cap and small cap space where many stocks have been beaten out of shape and will take a long time to recover, some will not recover at all. Most investors who had bet on these categories of MF for their long term goals will really need to rejig their plans now and look at other options.
  • In summary, both equity and debt asset classes are in a not so promising space, the economic indicators are hardly buzzing, the interim measures taken by the government such as corporate tax cuts also have not worked exactly as the investors had hoped they would.

So as 2019 draws to a close, what are the lessons investors can draw from it? It will, of course, depend on which stage of life you are, but some generic conclusions for such stages can be arrived it. A snapshot of possible strategies is given below :-

  • If you are in your twenties and starting off then do not worry too much about the present context, you have time on your side. However, keep your debt portfolio going with PF and possibly PPF or SSY.
  • For people in their thirties a clear action will be to look at their SIP portfolios and do a thorough review. Weed out the medium term non performers and focus more on large cap and diversified funds. Pure mid cap and small cap funds are best avoided unless they have high pedigree and are showing good trends in NAV. If your goals are due in the next 5-7 years you must create an alternate source for it.
  • For people in their forties look at increasing your SIP allocation in order to align with your retirement goals. The SIP returns have been far lower than planned for, so you need to invest more to make up for it. Some of your goals will be on you soon so you must have alternate plans, not redeem your SIPs especially those of mid cap and small cap funds. Have a solid debt allocation so that you can fall back on it as needed.
  • For people in their fifties, do not increase your SIP allocation even if your returns are lower than expected. You need to invest in Debt so as to give more time to your equity investments. Create a fund that will take care of your expenses 5 years after retirement and hopefully help your equity based SIPs to recover.
  • For people in their sixties, return from Debt investments is a major issue. Put as much money you can in SCSS and VVY schemes, use your PPF intelligently and once again let your equity grow as much as you can let it.

As an individual who has attained Financial independence, I am not immune to the market performance, if anything I am more affected by it. In the next post, which I plan to write tomorrow, I will explain my personal situation as envisaged by a recent audit that I carried out.

Wishing all my readers and their families a very happy and prosperous 2020.

My year end investment audit for 2018

Every year I try to take stock of my life and my finances on the last day of the year. It serves two major purposes – firstly, it shows me where I am and what do I need to do in order to get to my desired state and secondly, it gives me an idea as to whether I am doing the right things by my money. 

Any way we look at it, 2018 was a bad year from a financial or investment viewpoint. In the beginning it had not appeared so, especially after the stellar 2017 we had for our markets. January was a good month, corporate earning was looking like turning the corner and politics was largely stable, BJP having won Gujarat despite some hiccups. It was unfortunately to go wrong very soon, the first blow being the equity taxation in the budget. This has been talked about in every budget over the past few years but the markets clearly did not think it would actually happen. Once it did a domino effect of bad news and sentiment followed which has damaged equity portfolios through the year. I will not go into a detailed commentary here but crude oil prices, withdrawal of FII money, BJP losing Karnataka and then the Hindi heartland states, corporate earning being rather flat all played a role to ensure that our markets did very poorly. Even when there was some recovery, it was seen only in the large cap stocks, the mid caps and the small caps have been battered out of shape.

The news was not much better on the Debt front either. The ILFS fiasco affected several debt funds poorly and the returns for this year will be well below par. Short term accrual funds, normally considered the safest bets, also had fairly bad cuts. Redemption from debt funds was sustained over the year and the fund houses were saved by the continuing SIP inflow into equity MF schemes. So, while it was good to see that the Indian retail investor had gained some financial maturity, from a portfolio return perspective there were hardly any financial instruments that you could rely on.

With this backdrop, let us see how my investments have done in 2018 :-

  • My direct stock portfolio suffered in a big way early on, recovered somewhat in July/August period and then went down after that. The large cap stocks are not doing badly now but the mid cap and small caps have tanked quite a bit. On the whole the portfolio would have hardly made any returns after adjusting for inflation, I suspect there may be some losses too.
  • Similarly my Equity MF portfolio has suffered too, more in the mid cap and small cap space while holding on in the large cap space.
  • Thankfully, since both of these portfolios are long term, they are still doing well in the overall sense. Also, given the fact that I do not really have any need to redeem any of my investments, I can wait and hope for things to turn around.
  • The markets and stocks tanking also presented a buying opportunity. I have started a secondary portfolio of stocks which I want to run for 10 years. My plan is to invest about 10 lacs in it and so far I have done about 7 lacs. There are some posts in my blog on this and you can go through those for more details.
  • I do have a few open ended debt funds and they have not done well. During the year some of my FMP schemes had matured and I invested the principal amounts into hybrid schemes such as Balanced funds and Equity Savings funds.
  • My fixed income instruments were the savior for 2018. The Tax free bonds, InvIT funds, PPF, POMIS performed as expected and generated the expected cash flows.
  • With the rise of the US Dollar, I sold off some Dollars that I had over the years. I used this money to kick start my secondary stock portfolio.
  • I also received the maturity proceeds of an old LIC policy and this was also used in my secondary stock portfolio.

So what is the overall verdict? This was a year of bad returns and high expenditure due to our travels which included trips to Bali and Mauritius. As I said in yesterday’s post my active income was also not as expected. Despite all of these issues, my cash flows were comfortable and I was even able to invest in a secondary stock portfolio. This gives me the confidence that my asset base is capable of supporting my financial independent state with some leeway. Hopefully next year will get better and the asset base will increase to an even more comfortable state.

What are my cash flow plans for 2019 and how will I plan to invest next year? These will be the subjects of my next 2 posts.

Wishing all my readers a very happy and successful 2019.

 

Financial Independence at 41 – A reader query

India is truly a land of great contrasts. On one hand we keep hearing about difficulty in getting jobs and job losses in a variety of sectors. On the other hand we see people just coming out of colleges getting salaries that their parents did not get even when they retired. The vast majority are forced to work till very late in their lives, yet we have some who plan to retire at a relatively early age. In this post I wanted to share about a reader who wanted to check with me as to whether he could retire at 41.

This person, let us call him Ravi, is atypical in many ways. He is currently employed and is 27 years old. Even at this young age he is clear that he would like to pursue his passion seriously when he is 41. So much so, that he is unwilling to get married and start a family, which he feels will hinder him from achieving his goals. His parents are also self sufficient and have even contributed to his NPS till he got started in his job. The objective of giving this background is simple – I want readers to understand that not all of us can look at this plan, most of us have families and will need a whole lot more to run our lives as well as to retire.

With that proviso, let us look at Ravi’s current situation :-

  • His current NPS balance is 9 lacs. We will assume he keeps it at this and lets it grow at a rate of 10 % every year. He will have 34 lacs in 14 years time.
  • His monthly surplus is 60000 Rs today. We will assume it stays at this level for 6 years and then goes up to 90000 for the rest of the period.
  • We will assume that his Equity to Debt allocation is 60:40. So for first 6 years he will invest 40000 per month. This will lead to 1.7 crores in 14 years at 12 % return annually.
  • For next 8 years he will invest 58000 in equity every month. The extra 18000 for 8 years will add up to 29 lacs at 12 % rate of return.
  • For the debt allocation, these figures will be 62 lacs and 16 lacs at 8 % annual return.
  • Ravi’s total corpus when he is 41 years will therefore be 3.12 crores.

Let us now look at how much Ravi will be needing :-

  • As he lives in a smaller town his current expenses are only 25000 Rs per month or 3 lacs annually.
  • At 41 we can assume this to be in the region of 7 lacs annually.
  • Let us assume Ravi will live for another 45 years from 41. At a conservative level his corpus should be 45 x 7 lacs or 3.15 crores.
  • How should he deploy his money so as to get a passive income of 7 lacs annually? In this case as he has enough money, so keeping it in any instrument which matches inflation will suffice. However, as a good financial practice he should deploy his money as suggested in some of my blog posts earlier.

So, Ravi can retire at 41 which is great for him. What works for him is lesser responsibilities and ability to invest a lot at an early age. His parents have also contributed to his NPS which adds up. People with wife and children will find it really hard to retire at 41. However, something like 50 is still quite possible.

I will be happy to receive and answer any queries that the blog readers may have.

 

Compounding of equity returns – the greatest fallacy in financial planning

In several of my blog posts I have written about the frequent wrong usage of Maths to create misconceptions in investing which are not factually true. One such glaring misconception is for investors to feel that there will be compounding returns on equity investments, at least over the long term. This is simply not true and I would have thought that most investors would be able to understand this. However, as I have got quite a few queries and requests for clarification, let me do so here.

To start with let us fundamentally understand what Compounding is. I have used the following definition from Investopedia:-

DEFINITION of ‘Compounding’

The ability of an asset to generate earnings, which are then reinvested in order to generate their own earnings. In other words, compounding refers to generating earnings from previous earnings.

Essentially compounding involves some positive return on your asset, irrespective of what the return might be. Due to this the absolute value of your investment will always be increasing. Note here that we are not talking of inflation and Real returns here. For example, if I have a FD of 1 lac Rs and it pays me an interest of 8 % today then at the end of 1 year I will have an amount of 1.08 Lacs. Now if inflation is also at 8 %, my real return ( interest rate – inflation rate) is 0 and I have not really gained anything in terms of my purchasing power through this investment. At the same time, the absolute value of my investment has definitely grown by 8000 Rs in the one year period. This 1.08 lacs becomes my principal amount in the next year and I earn interest on this new amount. So in effect, compounding entails my earning interest not only on the principal amount but also on the interest amount.

The usage of compounding logic works great with debt products where the interest rates are relatively stable. Take an FD as an example again. At 8 % interest rate your money will double in approximately 9 years, at 12 % rate it will double in approximately 6 years and so on. Your money always grows in absolute terms, ignore the real growth for this discussion.

Now let us look at equities and see if this logic can be sustained in the light of our knowledge of it. If you look at stock prices over a period of time, you will see that it is clearly not so. Let me give you some examples from well known companies and their share prices from fairly recent memory:-

  • ITC reached 400 Rs and is now down to 300 odd levels.
  • Tata Motors went to 600 and then declined to levels of 250.
  • Reliance has had negative growth over years, so has Tata Steel.
  • Some company shares like Kingfisher Airlines and Gitanjali Gems have become penny stocks today.

There are also many examples of company shares having done extremely well and generate spectacular returns. My point here is simple – equities can give great growth but the way to understand that is not through the compounding principle. The growth in equity is non-linear and carries serious risk with it. Now at this point, people may tell you that over the long term of 15-20 years the compounding logic will hold true for equities. Sorry, it does not – if you bought the shares of Deccan Aviation at 146 Rs in the IPO , you have lost this money pretty much forever, never mind how long you are going to wait.

When I think about why there is such a great misconception about something really straightforward, I could come up with the following reasoning in my mind:-

  1. Most people invest in equity through Mutual Funds. As a MF scheme maintains a portfolio of stocks, the overall NAV of the scheme would normally increase in a reasonably good market, which we have had in recent years. If you take the mid cap and small cap funds in 2018, you will see the extent of loss that your schemes have suffered.
  2. Of course, the above can change in a prolonged poor market, but not many of today’s investors have had this experience. 2008 through 2010 was such a phase but has been mostly forgotten now. That is why many investors are shocked in 2018 when the NAV’s  of their Mutual fund schemes went south in a big way.
  3. The usage of CAGR term, somehow makes one think that equity investments compound. This, of course, is complete nonsense but I have seen many sensible people believe this. CAGR is an artificial construct to understand annual returns, it in no way says that such returns are stable and not even that they are positive. In fact you can have negative CAGR and negative IRR / XIRR quite easily.

So, if it is clear by now that compounding logic is irrelevant to equities then how do we go about financial planning with equities as an investment asset class? I will answer that in a future post. For now, do understand that you cannot just hope that you will invest in stocks and it will give you an XIRR of 15-20 % because that has been the historical returns in the index. I really wish life were that simple for me and you, but it does not work like that.

Take heart though – we can make great returns from equity, by understanding the correct ways of investing in it.

Interested readers may pls follow my blog on email by clicking on the relevant button on the right hand panel. I will shortly be stopping the practice of posting the links in different Facebook groups. Following the blog will ensure you get intimated whenever there is a new post.

You must file your tax returns – here’s why

For all tax paying people the August 31st now looms as the deadline, by which you need to submit your tax returns for last FY. New tax payers find it quite overwhelming, many people just avoid it through ignorance or laziness and others depend on their CA or Tax consultants to get it done. It is important to understand the need for filing tax returns and also how one can do it in a fairly easy manner.

First things first – why do we need to file a tax return in addition to paying our taxes? The answer is simple too – our tax deductions are automatic in some cases, partial in others and not there at all in some. It is therefore important for the IT authorities to determine whether you have taken all of your income into account and paid relevant taxes for the same. A few examples will make it clear :-

  • For your salary income TDS is deducted as per your tax calculations fully.
  • For your rental income of any property there is no TDS unless rent is more than 50000 per month. Here too the TDS is at 10 %.
  • For your FD interest TDS is charged at 10 %.
  • For your PO MIS interest, no TDS is deducted.
  • For your Savings bank interest, no TDS is deducted.
  • For your Capital gains from asset sales, no TDS is deducted.

As you can see from here if you just depend on TDS and think you have paid all your taxes, you are quite mistaken. Ideally you should be calculating your tax liability based on your overall income, during the year, and pay advance taxes to cover up the additional tax payment required. These advance taxes can be paid any time during the year and for a quarter the cut off date is normally 15th of the last month. So for the second quarter of this FY, the advance tax payment deadline should be 15th September. If you have extra taxes to be paid, based on your first quarter income then make sure that you pay it off by that date. For the last quarter of the FY, the date is 15th March.

However, if you have not done it this way in the last FY then what is your choice now? You need to file your tax returns with accurate information so that your total tax liability for last FY can be determined. If the tax deposited so far is less than this, you will need to pay the balance tax. This is easily done in the income tax website. In case you do not have an account there, create it using your PAN for registration.

What happens if you do not file the tax return? For one there is no real option and you will be fined heavily if you delay filing beyond July 31st. Also anything associated with your PAN can always come under scrutiny and the first thing IT authorities will check is your Tax return form. If you have not filed it, or filed it with inaccurate information then you are going to face a much sterner examination.

So all said and done, you will need to file your tax returns. In case you are not up to doing it yourself use a Tax Return Professional ( TRP ) to help you. You can, of course, go to a CA but they are more expensive and unless you have multiple sources of incomes that need complex book keeping I will not advise it.

There are some posts in the blog where I show you how you can take care of your income tax and learn enough to calculate your taxes and file returns on your own. It is actually quite simple to do once you lose your initial reluctance.

E-Filing tax returns – How to derive your taxable income correctly?

First the good news – due to increased volume of tax payers this year, the deadline for filing IT returns is extended by a month till August 31st. So, if you were one among the many who were late, you can still go ahead and file your returns now. With the penalty for filing delayed returns starting from this year, it makes immense sense do it on time. It is the right thing to do, you have a chance to rectify it if required, your refunds get processed quicker.

It is important to understand that you need to account for ALL income when you are trying to arrive at your taxable income in a Financial year. In fact, some of these incomes may well be exempt from taxes but it still needs to be declared in the form. In the terminology of Income tax, there are 5 heads in which you need to categorise your income. These are as follows:-

  • Salaries
  • House property
  • Profits or gains from Business or Profession
  • Capital gains
  • Other sources

Let us look into these income sources one by one. For most people filing tax returns, salaries are the bulk of their income. This will be your source, if you are employed by a company or business or another individual and get paid for your time. It does not matter whether you work full time or part time, as long as there is an Employee – Employer relationship, the income can be classified as salaries. When you need to give data for your tax filing purpose, note the following :-

  • Your Employer has to give you Form 16 which will record the total salary paid including the monetary value of perks, exemptions allowed for different allowances like HRA and Transportation, Exemptions under 80 C, 80 D etc.
  • The Form 16 also shows the total tax deducted as TDS and the tax liability. This is why some people think that is enough for tax return filing. However, this is not true as you will be having other sources of income in most cases.

Income from House property is relevant if you own one or more house property. You need to remember the following while filling up this schedule:-

  • Even if you are staying at the house, it still needs to be documented in the ITR returns. For self occupied houses the income will be nil.
  • If the property is rented you have to show the actual income from it. Many people think that for a single house there is no need to declare income – this is completely incorrect and you must never get into this.
  • Standard deduction on income from house property is at 30 % and you can also charge for any taxes or other regulatory expenses incurred in the house.
  • Interest can be charged up to a maximum of 2 lacs per house.
  • After all these deductions from rent received during the year the total income from House property will be calculated.
  • If you have a single house and it is not occupied by you and not rented out, then you can take the income as nil.
  • If you have 2 or more properties there will be a deemed income from all other properties except the first one, even if none of them are rented out.

Most salaried people earlier did not have any income from business or profession but it is becoming more commonplace now. There are of course, many others who do not have a salary but have income from business or profession. While looking at income from this head, you need to keep the following in mind:-

  • If your Business turnover is more than 2 crores or your professional income is more than 50 lacs, you will need to maintain a set of Accounting books and these will have to be audited as per laid out procedure.
  • For others the business income can be taken to be 8 % of gross receipts in business and return filed accordingly.
  • For professionals with less than 50 lacs gross receipts, you can charge 50 % expenses and take the rest as income.
  • In case you are showing income on presumptive basis, as in the above 2 cases, you will not be able to charge any other expenses to the business.
  • If the above does not work well for you, there is always the option of maintaining books, getting them audited and filling up the returns in a more complex manner.
  • For example, if your business turnover is 1 crore but your profits have only been 2 lacs, you will have to maintain books and proceed accordingly.
  • For a professional earning 40 lacs but having 30 lacs as business expenses, it will again make sense to maintain books and show only 10 lacs as income.

Capital gains can arise out of the sale of any asset such as Real estate, gold, Equity, Debt etc. The important things to be kept in mind are as follows:-

  • Short term capital gains are added directly to your income, Long term capital gains will get indexation benefits.
  • For equity LTCG requires holding period of 1 year and is taxed at 10% from the Financial year 18-19. So if you sell your shares after holding them for a year now, you do need to pay taxes on your capital gains. For the last year, these gains are exempt from tax, however, you do need to report it.
  • For debt LTCG is applicable after 3 years of holding and indexation benefits are there. The tax on the Capital gain post indexation is 20 %.
  • In order to save on Capital gains you can put the gains in Capital Gain bonds.
  • For real estate, as long as you invest the capital gains to buy something new it will not be taxed.

Other income is literally everything else from dividends, interests, lottery earnings, winnings from horse races etc. Some common mistakes people do are as follows:-

  • Where TDS is not deducted at all, such as in Post Office MIS, you must declare the interest as taxable income.
  • Where 10 % TDS is deducted as in Bank FD, you must again declare the total interest earned. 
  • Even if no TDS is deducted as you have given form 15 G / H to the bank, the interest earned by you must be declared.
  • Interest exempted from taxes such as interest from Tax free Bonds etc need to be shown too at the appropriate locations.
  • Dividends are again tax free in your hands but need to be shown.

I hope with this you will be able to get all your income recognised correctly. After this you will need to look at taxes paid and if any other liability is there still. We will take this up in the next post as this is already too long.