Guaranteed ways to lose money
We have discussed a lot of personal finance in our previous issues. But there also exist a lot of products or should we say things or habits that lead to wealth destruction. Every product and asset class has its unique features, but it is important to understand that every asset class is different from the other and is having its own peculiar risks. If you play with an asset class in the wrong way, it can destruct your wealth in a big way rather than creating it for you. Let's have a look at some of the practices, which help in losing money
Day trading, simply put is the activity of buying and selling the shares on a single day without taking any deliveries with a purpose to gain from the daily volatility in the stock prices. Day trading is the most common practice followed by new entrants into Equity investing. This would also apply to people who buy on deliver but to hold it only for a few days or weeks to benefit from trend movement. There are many so-called experts and even coaching institutions teaching this skill to others.
It is the most exciting feature as the prospect of making lakhs by sitting in front of the screen and just guessing the right prices is a mouth-watering one. Always remember that fluctuations in share prices during the day does not truly represent the functioning of the company. The person who makes the most money through day trading is the broker. For an investor, the chances of making money in day trading are as good as winning a toss and true success stories are very rare and far in between. Even the people who claim to be experts earn more from teaching this to gullible persons than by earning through trading itself.
Investing in FD's over the long term
Investors are obsessed with the safety of their investments and jump on any product giving guaranteed returns. Fixed Deposits as an asset class are good for short term investments of say less than five years. Some part of your investment for long-term can also stay in debt products, including bank FDs. The key here is the asset allocation you are following.
However, there are a very large number of individuals who only save in bank FDs. They generally start an FD for a tenure of say 6/8 years and then keep renewing it. But by doing so, the investor does not realise that it losing money as the value of money also keeps on declining due to inflation. So, if you have got an attractive return of say 8.5% on your FD and the inflation during the period was 7%, your actual rate of return is 1.5%. To make matters worse, if you are into say 30% tax slab, your real earnings will be a negative of 1.05% (8.5% less 30% = 5.95% less inflation 7%). Thus, your post-tax real returns are declining by investing in bank FDs. So, if you are investing for so many years, you are losing money as well as the opportunity to create wealth by investing in other market-linked products /equities.
Futures & Options are available in the stock market for the purpose of better price discovery and for hedging your investments. Unfortunately, these derivatives are used as tools for making quick money and they turn out to be more dangerous than day trading. In derivative trading, you can trade for 25 times more than the money you have.
So if you are having Rs. 100, you can trade for Rs. 500 through derivatives. So with the same investment, you can make 5 times more profit (and conversely 5 times more losses, wiping out your capital). There have been instances where people have lost their entire saings and even homes dabbling in derivatives. No wonder that they are called as 'weapons of mass destruction' by people like Warren Buffet. Derivatives are for use of professionals and playing in them without their guidance can be highly dangerous. Period.
Another Myth for keeping money safe is to keep it in cash. Cash not only has its own risks for storage but is also the only asset class which gives “0” returns. The value or the purchasing power of your cash goes down continuously due to inflation. This can be best understood if you list down the items which could have been bought in Rs. 100, 10 years back and the price of those items now. You should keep cash only to ensure your basic needs. With the increase in popularity of digital payments, namely say UPI and rise of applications like Amazon, Flipkart, Big Basket, Bookmyshow, Google Pay, Paytm, etc., most of your payments can be done online or by using the QR code even at retail shops. So cash is effectively not required unless you need it.
Going even a step beyond keeping cash, there is also this thought that too much money should not be kept in your savings account which is not earning anything from you. Keeping this money in products like mutual fund liquid funds which offer insta cash facility - immediate redemption and credit in 30 minutes at any time, subject to certain limitations, will provide a lot more earning opportunities for you.
Using your credit card as a free money instrument
Credit cards are the most widely used instruments these days in place of cash. It gives a lot of conveniences as you don't need to pay at the time of purchase. In fact, you enjoy an interest-free period of up to 45 / 60 days on your purchases. But many a time, people tend to overspend on the credit card. It is important to pay your dues back on time, else you can be subjected to interest rates as high as 3.5% compounding per month (which works out to an annual rate of 51% interest).
Never fall in the trap of skipping your credit card payments or paying “minimum amount due” as you start getting charged heftily on all transactions done then on. The interest rates are so high that if you default you might end up paying higher interest than the principal amount. Though, if you keep paying on time, there is no better option than a credit card. Besides you also keep earning reward points for the money spent by you.
It may take you a long time to create your wealth, but to lose it can be done in a matter of seconds. It is better to stay away from practices that can erode your wealth and make good use of every product available in the right way. That way, we will not only save wealth but also will be able to sleep peacefully.