Basics of Investing

Let us understand by an example. Let us consider a person getting a salary of Rs15000 per month. He has two choices when he gets his salary. Either he can spend all his salary on food, clothing, car, etc. or he can save a portion of his salary for future use.

Now suppose he saves Rs2500 per month from his salary for future use sacrificing some of his present needs. If the return on saving is less than the percentage inflation (decline in the purchasing power of money) there is no point in saving money now. If he invests in bank, he gets a return of 4% per annum and annual rate of inflation is 7%. It means that the real return you get from your saving is –3%. Thus interest rate you get has two components. You get a pitcher of beer now for Rs100. If you get it after one year for Rs120 you are paying Rs20 more for it after one year. If you put your money in a bank, your total receipts will be Rs104 after a year. Therefore it is better to have it now because next year you will not be able to buy it with the money you get.

Moral of the story:  In order to boost your saving instinct, you need to be compensated at least for the loss of your purchasing power. That is you need to be compensated for Inflation.

So, question arises where to invest.

Investing depends upon two things: – One, the risk profile of the investor and two, the liquidity requirements of the investor.

There are three rules to follow before you take your first dip in the investing waters:

1. Make a plan
2. Take into account your strengths and weaknesses
3. Review the plan often and change it as your needs and circumstances change

Investing in shares is akin to owning part of a business. A profitable business keeps giving back profits to earn more profits or should we say “compounding profits”.