An Evening with Young Earners

The physics PhD students of IIT, Madras invited me to speak on the rudiments of personal finance in their weekly meet on Oct. 24th.

Here is a transcript of the talk.  Since I spoke impromptu (following an outline!), I cannot reproduce everything that I said, but will try to list the important points covered.

Was delighted to note that the hall was packed. It is so refreshing to find youngsters interested in a talk on money management. I Am happy that this happened at a time when their scholarship has increased: 25K pm (from 16K pm)  for the first two years and then 28K (from 18K pm) for next three years.

1. Introduction

How would you like to change the way your family has always looked at money? That was the central theme of the talk.

 2. Fortifications: Building barriers

If a change has to make its mark, it has to permanent. Thus just like any construction, one has to begin with fortifications.

 Life Insurance

A research student died while on a trek recently. Their parents were entirely dependent  on him. They knew this. So no effort was needed to convince them about the need for a term life insurance policy.

Related Post:  How to Buy a Term Life Insurance Policy

 Health insurance

Same here. These were not school kids. They were postgraduates. So they knew the value of health insurance.

Subra suggested that I talk to them about the importance of getting their parents health cover. Done.

Related post: How to Buy a Health Insurance Policy

Accident insurance

This was suggested by Mr. R. Balakrishnan when I posted about this talk in the facebook group, asan ideas for wealth.

Emergency fund

See below

Related post: How Long Should I Maintain an Emergency Fund?

Will

Urged them to get their parents to write a will. Again a suggestion by Subra.

 3. Analysing Cash Flow

I suggested that the students do the following with their monthly scholarship

For at least 1 year

i) 30% fees + food + needs

ii) 30% family or to the bank (say a flexi-deposit) – partly to build an emergency fund

iii) 30% for long-term investment (money you will not touch for many, many years) – see below

iv) 10% buffer for wants … from time to time

After about an  year or when emergency fund is close to 1 lakh:

i) 30% fees + food + needs

ii) 30% family or  partly towards long-term investment

iii) increase long-term investment (money you will not touch for many, many years) – see below

iv) 10% buffer for wants … from time to time

 There was unanimous agreement that this was possible.

 4. Frugal Living

Do not connect money and happiness.

Do not take your degree and future positions too seriously and buy stuff because of some ‘status’ nonsense or because of peer pressure

5. Never take a loan

Except a home loan and that too only if necessary.

 6. Say no to credit cards

If you have a credit card, you need to pay it in full each month, anyway. Meaning you need to have the money ready. So why have one at all?

Ignore all the perks associated with credit cards. They do not account for much.

You do not need a credit card to keep track of your expenses

 7. Say no to any kind of insurance products

Except pure term life insurance. Enough said

8. Do not talk to an insurance agent or bank relationship manager

If you need something from them, tell them what you want. Never ever ask an intermediary, what to do

9. Do not buy land as investment

It is not liquid, not well regulated, demand is artificial etc. etc.

10. Do not buy gold as investment

 Since I was talking to physicists I could afford to say the following.

Gold glitters simply because gold is a metal. An electric field cannot exist inside a metal. Otherwise, the electrons inside would flow!

When light (which contains a fluctuating electric field) shines on a piece of gold, or for that matter any piece of metal, the nimble electrons move around like a gooey fluid and reflects most of the light. Some of it gets absorbed. So the resulting colour is golden-yellow. No big deal!

If our eyes could sense ultraviolet light instead of the visible light (VIBGYOR), gold would appear like a slab of glass because metals are transparent to ultraviolet light.

 11. Give money to charity

Help others in need.  When you are in need, someone would turn up to help you. That is my strongest religious belief.

 12.  Understanding long-term investments -  the chai shop analogy

Only one persons parent ( out of nearly 100)  invested in stocks. No surprises here I guess.

To introduce them to the idea of stocks and bonds, I used the following analogy.

Imagine a tea stall outside the hostel gate. You frequent it each day, you like the owner and you like the tea even more. One day he says he has to shut shop because he has huge debt.

You want to bail him out.

You have the following choices.

1)  Lend him say 50K and ask for 8% interest each year for 10 years. This is called a bond. Since he is in your debt, this is called a debt instrument.  If the person is trustworthy there is no credit risk involved.

Whether he gets a profit or not, he has to give you the 8% interest. So there is no ‘risk’ for your investment in the sense that payments will be regular.

You reinvest the payments in the same shop and get the same interest or say, put it in a bank FD

2) You give him 50K but tell him that you want a share of the profits. That is you own the company. This is called equity. If there is a loss, you get a loss. If there is a gain, you get a gain.

There may be intermittent losses but over a long period of time, you expect the annual gains to outnumber the annual losses.  You expect this because:

  • students need a place to hang out outside the campus. So they would frequent tea shops.
  • If the tea is good (and it is in this case) then more students would come and more often.
  • Thus, there is a chance for consistent profit.

After several years, the equity and bond investors net worth would look something like this  (drew this on the board).

Equity-vs-debt

If I apply 30% tax to both equity and debt, the value will reduce.

Now I must take into account the effect of inflation.

I asked for the price of chai when they had it for the first time ever in their lives.

Rs. 1, Rs. 2.50 were some answers ( not all are from metros!)

This was 10 years ago.

Now the price is about Rs. 7

So this is about 11% inflation with the starting price as Rs. 2.50

So after having devalued the corpus due to tax, we must devalue it due to inflation.

Now who do you think got the better deal? The fellow who had the courage to stomach annual fluctuations or the fellow who wanted ‘steady’ growth with practically no volatility

Which investor is likely to change the way their family handles money?

Knowing which chai shop to back may be tough as there are too many of them around the campus.  Also, why only back chai shops? There are several Xerox shops, supplies shops  etc.

What about our campus bank (SBI)? It makes a lot of money by offering attractive fixed deposit rates. It then offers different kinds of loans (car, personal, house, for companies etc.) at much higher rates and bags a neat profit.

Why not buy the banks stock? Why not observe the spending habits of the undergraduates and find out which brands they prefer? Those brands could then form a shortlist for further investigation.

Yes, knowing where to invest (either equity or bond) is tough. It requires confidence, discipline and the time to analyze and track.

There is a much simpler alternative: mutual funds. You pay a sum to a fund manager who pools in all contributions and invests in a diversified folio of stocks, bonds or both.

I urged them to build fortifications asap, learn the basics of equity and mutual funds and begin investing.

There were some intelligent questions like:

  • Why do you expect stocks to increase all the time?
  • Why is a home loan the only loan that one should get?
  • Which term policy should I choose?
  • Can I buy real estate if I want to farm in it?
  • If one gets rich, does it mean someone else gets poor? (Tough one!)

 Ten commandments of investing

When I discussed about this talk at facebook group, Asan ideas for wealth, Prof. Parag Rijwanji, institute of management Nirma university laid down ten commandments a young earner should follow. This is a must-read.

To access it:

1)     Join Asan ideas for wealth (get on facebook if you are not there. Totally worth it)

2)     Search the group for 'PhD'. You will find two threads started by an idiot.

You will find the commandments in the second thread.

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20 thoughts on “An Evening with Young Earners

  1. Pattabiraman Murari

    Thanks Ganesh.
    Here are some brief answers:
    * Why do you expect stocks to increase all the time?
    Only the good ones do. This is because we need to consume products (eg. toothpaste). Someone has to sell it to us. They have to do it at a profit or they cannot continue doing that. So if you go down this path, you will realise that profits will sooner or later drive the markets up.
    * Why is a home loan the only loan that one should get?
    Because inflation will devalue the EMI while your income increases.
    * Which term policy should I choose?
    Anything you are comfortable with. See my post on this
    * Can I buy real estate if I want to farm in it?
    Yes but there are risks. Monsoon, changing demands, soil fertility etc.
    * If one gets rich, does it mean someone else gets poor? (Tough one!)
    In a capitalist society, I think yes is the answer 🙁

    Reply
  2. Syamantak

    I agree to all points except the credit Card one. if a person can keep his spending to the limit which he can pay off within the due date, credit card is an awesome thing I feel. I personally use a few credit cards a for a few purposes. The StanChart Titanium card gives me a cash back of 5% on all telecom bills . On Citibank IndianOil branding I earn some points which can used to buy fuel in exchange. and all of these comes at free of cost. 🙂
    We need to use credit card with an assumption carrying a debit card. One should be swiping the card only till the point he can afford to pay within interest free period.

    Reply
    1. pattu

      Yes I agree with you. The trouble is kids at that age do not understand these. So it is best that they stay off credit cards until they get a permanent job.
      Yes a credit card should be seed as a debit card. Well said.

      Reply
  3. Ranjan Varma

    As always, lucid and direct.

    Liked the chaiwallah analogy to explain debt and equity. Request permission to use it in my talks. And what is the source for the chart on debt and equity mutual fund returns?

    Reply
  4. Anonymous

    That seems to be a well organised talk. It is difficult to believe that you talked impromptu and covered so many important topics. This excerpt would surely help me whenever I am asked for a small talk on finance among my colleague doctors. And since you have given permission I will surely use the chai wallah analogy. Keep it up Sir. India requires more people like you, Subra Sir and alike.

    Reply
  5. kishanm

    That seems to be a well organised talk. It is difficult to believe that you talked impromptu and covered so many important topics. This excerpt would surely help me whenever I am asked for a small talk on finance among my colleague doctors. And since you have given permission I will surely use the chai wallah analogy. Keep it up Sir. India requires more people like you, Subra Sir and alike.

    Reply
  6. Mahesh

    Sir,
    As per your suggestion , I found 'asan ideas for wealth Creation' group but I couldn't find 'PhD' group.
    It would be great help if you could post the link of second group.

    Thanks in advance.

    Regards,

    Mahesh

    Reply
  7. Ram

    Hi Sir,

    Can you please let me know if it is good to invest lump sum amount say 30,000 at a time in a good running ELSS fund?

    I already have SIP on ELSS fund, as the 80c has increased I am looking into this option.

    Thanks,
    Ram.

    Reply
    1. pattu

      You need to have an asset allocation for your goal. Say 60% equity and rest in PPF for a long term goal. Then invest according to that.

      Reply

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