Your first Trade

Investing in SIPs, ETFs and stocks requires you to have a trading account. While these are relatively simple to setup, many first time investors do not know how to get about doing these things. This post will give a basic idea about how to set up your trading.

I have worked with ICICI bank setup so what I write here will be relevant for ICICI. If you have account with some other banks, there will be slight variation.

Accounts

You need three separate accounts for trading

1. Netbanking: This is meant to give the money while buying shares or to receive money while selling shares.
2. Demat: This is meant to store the shares or other securities.
3. Trading: This is meant to perform the actual transaction of buying or selling.

Typically you will already have a netbanking account. It is best to open your trading / demat accounts with the same bank so that these three are properly set up automatically. You should talk to your customer service helpline or go to the bank to get these account

First trade

Once the accounts are open you can use the following to check that they are properly set up

1. In your netbanking account, a tab for demat account will become active. Below, you can see the screens for ICICI bank
2. You will receive details of your trading account - this will include the userid, password and the URL to access it.

Once these things are complete, you can login into your trading site and purchase stocks. Before performing your first trade, you need to decide on a share or security to buy. If you have not done so already, I recommend going with GS Nifty Bees. This will basically track the Nifty index and will be one tenth of the Nifty value.

After logging in, you need to go into the Equity page in the Trade & Invest screen. After that, click on the Cash Buy screen. Once you do that, you will see the first image above. Then, you need to select the exchange (select Nifty if you don't know which one to select) and then enter the first 3-4 characters of the share that you want to buy.

As you do that, you will see a list of matching instruments in a drop down as in the second image above. Select the one you want. Then enter the quantity - 1 for the test trade. You can check the price by clicking on the Get Quote link. A new pop up will open up with various prices. The last traded price is a good benchmark - your trade will take place at around the same price. In the order type select Limit and in the limit price, put the highest that you are willing to pay. This should be a few rupees higher than the last traded price.

You can keep the order validity as Day and leave other fields blank. Once you click on buy now, the order will be placed. It will typically be executed immediately. If your netbanking is not properly set up, it may ask you to select / login into the netbanking account. If all goes well, your netbanking account will be debited with the trade amount. 2-3 working days later, the shares will appear in your demat account. Please note that trading works only when the stock markets are open.

Next Steps

Once the whole process is complete, you can use the trading and demat accounts for investment. The SEP / SIP feature can be used to automatically invest a desired amount every month. You can also but futures, options, commodities and currency but these are advanced (and at times risky) items. If you are experimenting, always remember to keep the amounts low and assume that the losses will be high.

If you just want to invest for medium term (3 - 10 years), stick with Index ETFs.

Personal finances and Tax

Why Tax Sops?

The government gives a variety of tax sops to encourage certain behavior. For instance, the tax savings under section 80 c gives tax benefits for savings up to Rs 1.5 Lakh per year. The idea is to get people to save and invest money. Similarly section 80 ccg gives tax benefits for investments of up to Rs 25,000 for people having income less than 12 Lakhs. The idea is to get small investors to invest in mutual funds so that they get good returns without inordinate risks.

Of course, sometimes the tax sops stop making sense. For instance, on a first self occupied house, a maximum of Rs 1,50,000 deduction is available. But on second or more houses, the deduction available is the entire interest less 70% of deemed rent. In the present scenario, with high interest, high property values and low rents, this second option may be several times the first limit. In other words, it gives very high deduction for people buying a second or more property which does not make sense.

Tax Sops and Financial Planning

While good financial planning takes maximum advantage of the tax benefits, it is not directed by tax benefits only. Good financial plans begin with the needs of the individual and once these can be fulfilled, the optimum tax benefit is taken. Often, however, people make mistakes which can be very costly.

For instance, most of the investment options under section 80 c require the investor to lock in the money 5 years. Schemes like NSC give returns of 8.5% but the interest is taxable. So even considering the initial tax savings, net returns are between 9% and 15% depending on the tax slab. Given that most personal loans and EMI schemes are at 14% to 16% interest rates, this is usually a losing proposition.

Of course, investment in PPF is way better because the interest income is also tax free. But since these are very illiquid (and early withdrawal is again taxed),  one needs to think carefully before investing in them.

Rules of thumb

If you are in the 10% tax bracket, then do not invest in tax saving schemes like traditional insurance and NSCs. If you are very certain that you will need money for 20-25 years, then invest in PPF.

If you are in the 30% tax bracket then you should completely meet the limit in section 80 c. Most of it will probably be covered by EPF and similar instruments. Also, you should not require to buy things (except house) on EMI.

If you are in the 20% tax bracket, then the difference between the two options are not significant. But if you do anticipate need for money in a couple of years, then it is better to not invest in locked up schemes.

Privacy, market decoupling and REITs

Real estate market in India is currently claimed to be in bubble territory. Certainly, the price increase during the boom period of 2004-2015 is unprecedented. While it has been a wonderful time for people who got on board before or in the initial stages of the boom, for people who did not purchase a house, it seems pretty hard. Worse, these are the people who are most likely to buy property at the worst possible time - just before the bubble explodes.

Privacy and market decoupling

So what has this got to do with privacy? Well, as per the original definition, a private citizen was one who took no interest in the affairs of the society. Given that most of the functions of a society are performed by markets today, I would call privacy as the degree to which a person is decoupled from markets.

When a person rents a house on a one year lease and license agreement, he or she is highly coupled with the market. Price changes would affect him greatly. The coupling decreases as the lease term increases and price stability is built in; however, often the "price stability" assumes other factors to remain constant. For instance, a 10% escalation clause would be fine in high inflation (and high salary rise) era but if inflation drops to 2% and salary increases follow suit then again issues arise.

Owning the house you live in significantly reduces the risk. You become much more disinterested in what happens to property prices.

Ticket size and Timing risk

Unfortunately, while owning a house reduces the risk associated with market movement, the process of owning a house increases it. In other words, if you purchase a house when the prices are high, you are significantly worse off. The real issue is that you can never be sure when the prices are high or low and since you must purchase the house at one go, you need to take up this one time risk

REITs

It is easy to see where all this leads to. REITs are a mechanism to "buy a house one square foot at a time". Basically a REIT (real estate investment trust) is a large corpus of funds that is invested in real estate. The investment into this corpus can be bought and sold in "small quantities". Sure, this costs money and my sense is that for REITs, the costs for managing REITs are likely to be 2-3% which will probably be of the same order as rents so your returns will be substantially lower than if you had bought a property. However, the benefits of diversification and small ticket size are significant since for many people there will be no other option.

In other words, once well managed REITs are available, you can invest in them in small amounts. They will allow systematic investment in property. For a person who has just started a job and would like to buy a house in 5-6 years, REITs would give an alternate mechanism to "decouple from the market". By investing a fixed amount every month, one can get rid of the fear of "what if property prices increase substantially". When one is ready to purchase property, one can just sell the investment in the investment in REITs and purchase the property.

For people who dislike paying interest and / or are not certain where they want to live in (probably because they are considering changing their job, career or city), these will be a boon and an alternative to purchasing a house on EMI.

Markets know best

It is not hard to come across investment opportunities that seem too good to be true. From the piece of real estate that can never fall in price because it is at a great location to the stock of a company that has great management so it will perennially keep appreciating are all "tips" that one often keeps hearing about. We also hear about the people who made a killing by actually investing in those. In this article, I will talk about when it makes sense to go by these tips and when it does not.

Efficient Markets

This is a technical term that actually is very useful to understand markets. Basically it says that the price of any item (including real estate and stocks) at any time is "correct". By correct it means that if you were to see the movement of price, it would increase in about 50% of the time decrease in 50% of the time. In other words, it is not possible, on an average to make profit.

How does it work?

While the proof and even the interpretation of this statement is very involved, some reflection will convince you that it should be correct. Consider the case of a property that is at a very good location. In this case, it may be the case that the property will be priced higher than others but why would it keep appreciating? On the other hand, if everyone knew it would appreciate than everyone would try to buy it and would make better and better offers to the seller. This would stop only when all the "excess appreciation" was factored into the price. Exactly the same thing works the company with a good product or a good management.

Can one make money out of tips?

A little reflection will tell you that the only way to make money out of tips like this is to get - and act on - them before others do. So your reaction may be to act on them immediately while others are still evaluating. This is often also mentioned in the tip itself. Unfortunately, that is unlikely to help you either.

The reason it does not work is because usually the person giving the tip has no special "love" for you. He could have given the tip to anyone else. Most likely, he chose the order in which to give the tip at random which means that a large number of people must already have received it and much of the price appreciation must already have taken place.

On the other hand, it is a great way to commit fraud. If even some people blindly believe on tips, than prices will increase for a short time. So the person giving those tips can hoard the item in question and sell it when the prices increase. This was the reason a why a couple of years ago promotional SMS about stock tips were banned.

But I believe in this tip

At times you will come across a tip that you think makes sense. Before investing on the basis of it, do ask yourself the following questions - 

1. What new information do I have that others either do not have or do not believe in?
2. Has there been any price movement in the last few days or weeks which may have been due to others getting the above information?
3. What is risk involved? What does it mean for my financial health?

When do markets NOT know the best?

This is one last thing that is important. There are a large number of cases when the market price may be wrong - often for large amounts of time. This often happens when

1. There is a monopoly - a single buyer or a seller.
2. Information is available to a select few - for instance when government comes up with a master plan for a city or a major contract is awarded.
3. Some new technology or innovation comes up - consider the dot com boom and bust
4. The world is going crazy - for instance when the central banks print a lot of money and flood the market with it

But in each of these cases again the only way you can make money is by getting out before everyone else realizes that they made a mistake. On the other hand, the potential to make huge losses is very large. If you realize that such a situation exists, the least that you should do is be very careful.

Controlling Expenses

Don't I get to spend more money after getting a job?

After getting a job, there will be a significant change in your financial situation. If your parents were well to do, your financial situation must have deteriorated significantly since you feel odd asking them for pocket money and your salary seems to get over before it even started. If you struggled to afford an eduction then you probably have money in your pocket but then again maybe you have a lot of responsibilities and your salary seems too small to fulfill all of them. Blessed is the odd standout who actually has more money just after getting her first job.

Controlling expenses is a hard thing to write about. This is because while the savers are all similar (they dont spend on anything), each spindrift is spends in his or her own way. So rather than trying to control expenses I will talk about something else.

What do you do with your time?

This is probably a strange question to ask in a personal finance blog. But spend a few minutes thinking about it and you will realize that it is a very important question. In fact, some psychologists believe that it is THE CENTRAL question of our existence. But this question is even more relevant for people who have recently got a job.

The reason this is important is that after getting a job, life changes significantly. You become - or are supposed to become - more mature, responsible and capable of taking your own decisions. Before taking a job, life was structured - often by others. College and classes decided when to study. You probably had a large group of friends with much social interaction. This group decided what to do with your free time. But after getting a job, your groups would probably have become much smaller. You will be surrounded by your professional contact most of whom are significant older. There might be a few "freshers" in your work place and a few college friend who you are luck live / work near the same place you do.

In other words, while you didn't have to do much to pas time in your college, now on one hand you have a job which exhausts you and on the other hand you have not much idea what to do in your spare time. It will be worth your time to write down ten or twelve things that you do - or should do when you have free time.

Where is this going along?

If you have actually done the exercise in the last line, you will realize that more often than not, you do not have an idea let alone a plan. And as a result you go with the flow  making decisions at the last moment. What typically happens when we do so is that rather than doing things that give us real satisfaction, we go for things that are easy and give us momentary satisfaction.

For instance, you may like traveling of hiking but that is not an option at 4:00 p.m. on a Sunday afternoon (because you got up at 2:00, because you slept at 4:00 a.m., because you were watching a rerun of Friends, because you had no idea what to do on a Saturday night - you get the idea...). On the other hand, if you had planned something a couple of days ago, you might have slept earlier and got up at 6:00 in the morning to beat the traffic and visit a nearby hillsite.

I have noticed that when we "go with the flow" somehow the decisions are very "costly". I think we are more vulnerable to advertisement and all the glamorous things that are heavily advertized are costly.

So what do I do?

Now spend more time trying to imagine what you really want to do with your time - it could be education, hobby, hiking, traveling, joining a community or cause or so on. It is very unlikely to be shopping and eating out. Further, you will realize that there are lots and lots of ways to do this things at low costs.

More importantly, you are doing things that you really like so money spend on them is well spent; on the other hand money spent because some crafty commercial conned you into buying something you didn't want and couldn't afford will make you miserable.

Alternative to EMI schemes

EMI schemes and personal loans are the best justification for planning your personal finance. Hence planning your finance is an alternative to them - and a very profitable alternative. This post is for those people who dont seem to every have money with them when they want to buy something and as a result keep resorting to EMIs.

Cost of debt

Let us look at what the implications of EMI are. Consider purchasing a phone worth 8,000 Rs at a 6 month EMI of Rs 1400. This is fairly representative scheme and you may image that it is not very costly. But in fact, it costs you Rs 400 and the interest rate is just around 17%. Similarly, the interest rate on personal loans comes to anywhere between 14% and 16%. Credit card debt is even worse at 24%-36%.

If an EMI is taken as a one off case then it may not seem costly but the reality is that taking things on EMI is usually a sign of bad habits that cause recurring problems.

Planning

The first benefit of planning is that it avoids impulse buying. You may be tempted to buy stuff that you do not need on EMI since the gratification - the reward of buying is instant but the costs come over the next few months. However, if you pay in cash (or by debit card), you will need to plan before making large purchases - and in the process you will have to ask yourself whether it is really worth the money or not. In the cool and comfort of your home, away from the glitz of the shop, as you weigh the options, the unnecessary purchases will be avoided and things that matter most to you will remain.

The second major advantage of planning is that you save a LOT of money. 400 Rs may not seem like much, but if you make a purchase every month, it quickly will. Worse, when you use EMIs for small things like a washing machine, you will also use it for larger things like a car. THAT can easily put you back by a whopping 25,000 Rs. Don't believe me - do the maths yourself.

How to plan

Systematic planning involves a lot of steps but for now we will just begin with a quick a dirty plan - but one that is better than no plan at all. First of all, you need to have a budget for shopping and capital purchases. This will include almost every item sold in the glitzy stores in a mall for instance clothes, shoes, accessories, electronics, furniture, furnishings and so on. Note that as a rule of thumb, the budget should be between 10% and 20% of your take home salary; begin with 10% and try to keep it there unless and until you have to increase the budget.

Now keep atleast half of you budget in a "fund" - a piggy bank is the best idea. Whenever you have the impulse to buy anything, just add it to you wishlist. Put money into your fund every month immediately after getting your salary. At this time you can also check you fund value and decide if there is anything you would rather buy from you wishlist or wait till your fund increases.

Of the remaining money, add a fourth to your wallet every Monday and feel free to use that amount - and only that amount to "splurge".

So for a person who earns 20,000 Rs per month, the monthly budget is Rs 2,000. Of this 1,000 will go into the fund and every week he will add Rs 250 to the wallet for spending.

As you go about this you will initially spend the the money in the first 2-3 day itself and will feel miserable the rest of the week, especially on weekends. Over time, if you keep at it, you will learn to keep waiting for all of the weekdays so that you can have a good weekend. If you really want to become a pro, you can try saving something from the 250 Rs (say 50 Rs) so that once a month you can have a better party.

If the budget of seems too low - even after taking it all the way upto 20% of your take home, you need to take a hard look at your overall planning which we will do in the next post.

Gold and Gold ETFs

Gold v/s gold ETFs

I like ETFs. However, Gold ETFs - especially for long term are an exception to this rule. The reason is simple - Gold ETFs are too costly. The typical fund management fees is 1%. As compared to this, when you buy gold, typically in the form of coins and sell them back, the total transaction cost is 10% (Yes it is that high). So if you plan to hold gold for more than 10 years, it is better to buy coins.

When should one use gold ETFs?

Gold ETFs can still be used to invest in gold systematically - start and ETF with 1 or 2 grams of gold per month and every couple of years or so, purchase coins or jewellery and sell the ETF - on the same day. This way, when you are buying gold, you do not need to worry about the price.

Why should one invest in gold?

But why exactly do you need gold? Gold is the investment of last resort - when something totally unexpected happens and you lose everything else, physical gold is likely to still have value. A major market meltdown, a war or hyperinflation are likely scenarios. A portfolio that has 5% in gold is hardly hedged against such events (such events are likely unhedgable) but with that gold, you can begin a new life. Incidentally, another reason for preferring physical gold is that a large number of such meltdowns would mean that the ETF would become worthless.

How much to invest in gold?

Typically, 5% is a good amount to invest in gold and gold jewellery. Generally this amount is easily taken care of by the jewellery component. For people who have their other financial goals on track I would suggest keeping 10% of their total savings in gold.

Conclusion

So this is another area where I differ from traditional finance advise - rather than Gold ETFs, I would suggest you to keep physical gold in a place that is secure but reachable in case of emergency.