Basics of Investment is nothing but utilizing your hard-earned cash to a market tool by which you can get good returns for your money. When we have money in our hands as a spare, we can start thinking of how to spend that money. If thought is coming to your mind about saving at the first instance after getting your salary, I must assure you that you are going to be a financially fit person. The reason for this is explained in the basics of the Personal Finance blog which is worth reading for if you are newly exposed to the market or got your first salary in hand.
You will understand this blog easily provided you already had gone through my other blog on Personal Finance and knows about different parts of your salary. I will discuss the Saving part only in this blog, but you should feed Investment in place of Saving in your mind. The reason why I am saying so is simple you can not beat inflation simply by your savings and in nutshell, saving can not make you wealthy in long term. So you must invest your savings part which in turn would generate wealth for you over a period of time.
Reason to learn basics of investment
Everybody needs money and everybody wants to multiply it, but it can not be achieved because of inflation and other factors. So we must search for some other solutions where our savings can be grown and it is only possible when that solution has a return above the present inflation rate. But the market is a complex structure with a combination of Insurance, Deposits, Stocks, Debenture, and many other market tools. Each money making tool has its own strategy to grow, advantages, and risks. Before handing over money to any market tool we all must have three objectives like Safety of the money invested, Returns over that investment, and future growth.
So to start learning about the basics of Investing, I must recommend to you all, a famous book “Rich Dad Poor Dad” by Robert Kiyosaki. He tries to explain the basics in a very simple term, that we must invest our money in Asset class only and not in Liability. So we should start with the basic terms associated with investments first:
The asset is something that puts money in your pocket. For example, Investing in Bonds, Real Estate, etc will obviously beat the Prevailing Inflation rate and fill your pocket with handsome bonuses. We must purchase the assets because assets have the ability to beat the present inflation rate and can generate wealth for us in long term.
Liability is something that takes money out of your pocket. For example, Car which we think is a need and asset because we have to commute but think deeply that the car requires maintenance and daily fuel charge which means it is draining your money out of your pocket.
An interesting example is of Building purchased with loans or in cash, and in which category it should lie in, Asset or in liability? The simple explanation to it is if the same building is used by you or your family to reside in and not giving any return then it is a liability and if the same building is on rent and giving you money in return then, of course, it is Asset.
If your invested amount is generating some return to your pocket over a short or long term period then the investment is an asset. Stocks which includes Mutual Funds such as Real Estate, Intellectual Property, Gold etc are some example of an asset. One point is worth mentioning here we have to invest some money to buy that asset which will generate wealth for you in future. Whereas Liability not only requires money to acquire but also drains out the money in maintenance thereafter.
Generally, we purchase Insurance thinking of it as an asset for long term measures, and here we commit a mistake. Because Insurance is there to give financial security to your family after your life gets over and it is not a mechanism to generate income in any way. If you calculate the returns over a long time in insurance then it can be easily assessed that returns are not able to beat inflation so how come it can be categorized as an asset?
In one of my earlier blogs, I discussed the need and purpose of Insurance and told you the reason why you must not spend your money unnecessarily on them leaving the important one aside. Everyone must have just a handful of Insurances with them and not all of those available in the market. Here I must stress that your saving part must be used to build your investment basket. Robert Kiyosaki also gives a great concept of the mindset of various classes of people in which he beautifully explains how Rich People use their income to build assets whereas middle class and poor class people acquire liabilities thinking that they are buying an asset.
Latte factor in Basics of investment
Another important factor that is important to mention here is about Latte Factor which is mentioned by David Bach in his book ‘The Automatic Millionaire’. This Latte factor is the very minimal but regular spending’s which seems important in the short run but will cost you a huge in long run. Latte spendings include small but regular costs like Movie Tickets, Taxi/Bus charges, Outside Food, etc. So if you can cut short this small spending, it will be a major step in the improvement of your financial health.
Another important point to consider is Ad hoc spending (instant spending) which means the spending we make just at the spot. For example, you have no intention to buy clothes in the month but suddenly you saw a heavy sale on the clothes and unnecessarily purchased the clothes because of the sale. This is going to spoil your balance in the long term, So, it is recommended to have little patience while going to make such purchases and must implement different measures to avoid these sudden purchases.