Value Investing for Smart People is a course that will teach you the simple and sensible strategies to invest in the stock markets to grow your wealth over the long term.
But since this is the very first lesson, let us answer this question to start off with…
Why invest at all?
All of us have a long list of financial goals, starting with things like paying the EMI of our house, putting food on the table, and paying all other bills so that we live comfortable lives.
When you work your way down the list, you get to things like replacing the old car, buying a second house, putting the kids through college, and retiring.
You see, most of our wants – and you might associate with this – will exceed our expected lifetime earnings. This is even before you include a luxury car and a foreign holiday that you’ve promised your wife.
How to you plan to meet all these expenses? Remember, we’ve already said that most of these expenses will exceed your expected lifetime earnings.
So how do plan to meet at least the critical financial needs that will arise in the future – like putting the kids through college, and your own retirement?
You already work so hard to earn money to meet your expenses and save for the future. You toil hard, you sacrifice your personal life, and sometimes your health in the race to earn more and more money.
But amidst all this, how much thought do you give to that fact that you can take help from ‘someone else’ as well to earn us more money to help you meet all your financial goals in the future.
Let me cut it short here. That ‘someone else’ is none other than your own money – what you are earning and saving today.
Yes, your own money can earn money for you…and lots of it! People who are rich know this for a fact. But most of us in the middle class don’t.
After all, our school and college education has never taught us this way to earn money. And neither have our parents.
What we have always learnt is to study well, get a good job, earn money, and save for the future. Nobody has really told us that there’s one more aspect to our working and earning life – investing for the future.
This is the reason most Indian middle-class households ‘save’ money – in safe deposits of banks and post offices, or in the form of gold and silver – and rarely ‘invest’. You might be one of them too.
But do you know how much our money grows when kept in these ‘safe’ places?
A bank account can give you a maximum of 3-4% interest per year. A bank fixed deposit or a post office saving will give you somewhat better, but only 6-7%. Gold and silver won’t earn you anything till the time you don’t sell them. And as far as property is concerned, in a normal year, it can rise at an 8-10% rate as well.
“Aren’t these good returns?” you might ask. Not really, let me say!
While calculating your ‘real’ return from all these or any other avenue, we must also take into account the ‘inflation’ factor.
In simple terms, inflation is nothing but a rise in prices of things that we consume. So, if we are paying Rs 50 a kg for onions today while these were costing Rs 10 a kg one year back, the rate of inflation is a whopping 400%. But this is an exception.
Inflation is India has generally been in the 5-7% range over the past many years. And it is expected to remain in this range in the future as well, notwithstanding sharp spikes and falls in between.
So, when you calculate the ‘real’ return on your investment, you must reduce the inflation rate from your total return. Like, if your bank account gives you an annual interest of 4% while inflation is at 5%, your real return equals a negative 1% (-1%). And if a fixed deposit gives you 8%, your real return will stand at 3% (8% minus 5%).
Now do you think that this kind of return is fine, especially when inflation rate is only going to rise in the future (given the rising shortage of everything we consume)?
It isn’t. I mean this is not what we can call ‘growth of our money’. Inflation actually eats into our money. And how?
Let’s assume that you have Rs 100 with you are looking to buy onions. At a rate of Rs 10 per kg, you will end up buying 10 kg of it. But what is the price rises to Rs 50 a kg after one year while you still have only Rs 100 to spend?
In that case, you will be able to buy only 2 kg of onions. That’s the negative effect of inflation – the value of every rupee you will have in the future will be lesser than the value of that one rupee today. And that’s the where the concept of investing and inflation comes into play. To grow your money fast at a time when inflation is eating into it is very important.
Forget onions. Look at the total cost of living that is rising at such a fast pace these days that that we need to prepare ourselves well to meet our future financial obligations. And these can include our children’s high education and marriage, our parents’ healthcare needs, and our own retirement. All these are big expense items and as such we need to save and invest a lot to collect their kind of money over the next 5, 10, 15, or 20 years.
Let us now look at how many years you will take to accumulate Rs 10 lac for your new born daughter’s higher education 18 years down the line, if we start with Rs 2 lac today. We will assume real returns (total return minus inflation of 5%) of different avenues to arrive at this number.
Here’s the chart that shows it all.
Note: Real returns (shown inside brackets) are calculated assuming inflation rate of 5%
As the above chart shows, the only way to meet you target of reaching Rs 10 lac (if you start with Rs 2 lac today) in 18 years is to invest in stocks. While your bank FD will not get you anywhere, the property route will take a much longer time that what your requirement (of 18 years) permits.
These calculations are not based on some random numbers. These are exactly what these investment avenues have earned over the long term in the past.
Thus we arrive at the fascinating (though risky) world of stock markets – one of the most critical investment avenues that can help you achieve your long term financial goals.
I just said that stock market is a risky place, but so are our lives. There is always a risk in anything we do. But then, with the right education and research, we can minimize that risk. And as we get more education, we can better decide how much risk we want to take and conversely how much return we can make safely.
Understanding the risks is the first step toward minimizing them. In fact, it is possible to make 10-15% annual return on your stock market investment with almost no risk. But only if you know what you are doing.
There are many paths you can go down when you get into investing in the stock market. But there’s one thing you can be sure of. With education and research you will make money.
You are already beginning your education here. That’s a great start! Continue on this road and make your money work for you.
P.S.: Check out my premium eight-month course in Value Investing – The Safal Niveshak Mastermind – where I will help you learn the art of Value Investing and how you can apply it to create long-term wealth through stock investing. Click here to know more and pre-register for the upcoming batch.