Category
Financial Planning
In personal finance, many a times, we use certain quick and easy calculations to find out investment or insurance related insights. ‘Rule of 72’ is one such calculation method to find out how many years it would take to double our investment given a certain compounding rate of return. But how accurate is the result? Can you trust the result for critical high value calculation? Read on.
Let’s start with an example of using Rule of 72. Say we are assuming that our investment will give a return of 9% p.a. Now if I invest Rs. 1 lakh in this product, by when my investment value would become Rs. 2 lakhs then? If we use Rule of 72, then we can find the answer the below way:
No. of years to double my investment = 72 / Given rate of return = 72 / 9 = 8 Years
So, after 8 years, my investment of Rs. 1 lakh will become Rs. 2 lakhs. Let’s verify this result with an Excel function viz. NPER:
=NPER(9%, , -100000, 200000,) = 8.0432 Years
The difference is of almost 15 days. Still the result is quite close compared to what we found using Rule of 72.
Now, let’s assume a higher rate of return e.g., 18% from my investment – rest everything remains the same. Number of years would take to double the money –
**Using ‘Rule of 72’:**
=72/18% = 4 Years
**Using Excel NPER function:**
=NPER(18%, , -100000, 200000,) = 4.1878 Years
The difference is now of almost 73 days. So, the accuracy of result is getting compromised here.
**The conclusion is:**
The ‘Rule of 72’ works well or serves the purpose in most cases. But if accuracy really matters for you, then you must remember that **Rule of 72 works best or gives quite close to accurate result when the assumed rate of return is between 6% to 10%.**
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Category
Financial Planning
What is the formula of finding future value of an investment? Let us talk plain arithmetic here. The formula is FUTURE VALUE = PRESENT VALUE OF INVESTMENT * (1 + ANNUAL COMPOUNDING RATE OF RETURN) ^ NUMBER of YEARS. What lessons can we learn from this seemingly easy looking formula? Let’s check.
One thing is pretty clear from the above formula, if somehow, we can increase either present value of investment or rate of return or number of years – the overall future value would increase for sure. But how easily that can be done and how much control we have in each one of these three factors? Let’s check one by one.
**Present value of Investment:** This can be increased, but up to a certain limit which is our investible surplus amount. Naturally, we cannot and should not borrow and invest. This can be increased only if somehow, we can earn more and save more. Earning is the only one thing, that can be increased without any upper limit. But for that we have to work hard and also need to invest in ourselves. But even then, it is not that simple.
**Rate of return:** On this factor, we have the least control among all three. Very few of us have the time, skill and resources to continuously study and research various investment avenues so that return can be increased continuously for years.
**Investment period:** This is the last and the only factor that can be increased beyond any limit by each of us, only if we start investing early. But the greatest irony is that very few of us consider and focus on this factor. We blame ourselves for not being able to earn more or save more. We blame our investment advisors for not being able to suggest us investment schemes with higher return. But the factor which is in everyone’s control – that is increasing the period of investment – hardly gets any notice!
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Category
Financial Planning
Any time is good time to invest – this sentence has almost become a common parlance for all investors like us and largely for long-term investors – this is true also. But not many are talking about right time to take our money out of investments. Whether you consider redemption as a part of personal finance strategies or as a need – it makes lot of sense to know a thing or two about redemption.
**Following 3 things must be considered while making redemption from any investment:**
1. **Goal is due / Target return is achieved –** There are investments which we make keeping a goal in mind (mostly in mutual fund or in bouquet of products). Such investments are ideally to be reviewed and monitored regularly and often get moved to less volatile products as the goal year is coming nearby. Then there are investments which are made keeping a target return in mind (mostly from investments in stocks). Exiting from all these planned investments should be a no-brainer provided you do not get greedy or fearful during such time.
2. **Non-performance / Change in strategy –** Such decisions often come out of a review meeting where your portfolio is analysed in detail. If certain investments in your portfolio have been consistently lagging in performance compared to peer group of products – then it could be the right time to exit and switch to some better alternatives. Or there may be a change in fund objective or strategy which is not fitting your requirements – then also exiting could be an option.
3. **Financial emergency –** Despite having a sizeable amount in emergency or contingency fund – there could be scenarios, where taking money out of the investments is the only option - we are left with. In such situations, though considering market level or outlook is secondary – but it is of primary importance to consider – which investment to part with. Consider the potential gain you are sacrificing, tax impact, exit load etc. before finalizing on which product to exit from.
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Category
Financial Planning
If you want to secure regular income payout throughout your life starting now or later – Annuity Plans (also often referred as Pension Plans) are worth to consider. Mostly such plans are opted by retirees. But even if someone continues to work and still want a regular payout for whatever reason – annuity plans can be opted. What are the options available? What do you must know before buying? Read on.
**Immediate or deferred Annuity -** First thing first – decide whether you want regular payout to start immediately or later. If you want to start receiving income immediately – go for **Immediate Annuity Plans**. For immediate annuity plans, you must pay a single premium in lump sum. If you do not want to receive income immediately but after say, 5 – 10 years – then go for **Deferred Annuity Plans.** For deferred annuity plans, you may choose to pay a single lump sum premium (in such cases you can defer the payout receiving to commence by minimum 1 year or multiple of 1 year). For deferred annuity plans, if you choose to pay regular premiums – then there must be a minimum deferment period (in most cases, minimum 5 years – though it may vary depending on insurer and plan opted).
**Payment Frequency** - Next, you must choose **payment frequency**. Depending on plan chosen, you may opt to receive regular payouts – monthly, quarterly, half-yearly or annually.
**Annuity Option** – Last but not the least – you must choose an **Annuity Option**. There are so many annuity options available – that you may find it overwhelming. Let’s discuss here two most common options –
**Life Annuity with Return of Purchase Price:** Annuity will be payable to you throughout your life and on death the Purchase Price will be returned to your nominee.
**Joint Life Last Survivor with 100% of annuity to spouse with Return of Purchase Price:** Annuity will be payable to you throughout your life; and on death, your spouse will receive 100% of the prevailing annuity throughout his/her life. On death of the last survivor, the Purchase Price will be returned to the nominee.
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