My ULIP agent: Many many thanks to you

Flash back to January 2007. I had joined a new company, got good package and had a good sum returned from previous company. By the end of Jan it was raining tax savings schemes and alike instruments all around. I was asked to provide my tax saving stuff and alas I had nothing. Suddenly one fine day the God himself decided to meet me in the form of an ULIP agent. He offered me a product too lucrative to be ignored. I thought one should listen when opportunity knows. I wholeheartedly poured in 70K as the annual premium for the sum assured 7 lakhs. The God said, you look so healthy, nothing will happen to you, thus 7 lakh is more then sufficient for the insurance cover. I happily agreed, after all he was personal finance God.

Fast forward to Jan 2008; The stock market was euphoric and the wisest man inside me chose the "Growth" option in the ULIP, I was too happy to blab about my investment mantra and intelligent decisions. To boast about it I logged into the my savior ULIP web page and hit the 'fund value'. The whole world rolled in front of my eyes. While even my 'kam wali bai' had earned a lot in the stock market during that period, my safe fund showed me my fund value a little more than 30K. I thought to bash at the agent, who conveniently cut the phone. I then rang to the respective insurance company, who enlightened me with the fine details I didn't bother to read previously.

My policy had a funny deduction structure.

1. From the first premium 65% will be deducted as administration charges plus agent commission.(Oh God!)
2. Mortality charges
3. Some other management charges1%
4. 10% service tax and 2% education tax (close to 10.2%)
5. Some 2.75% annual charges

I was amazed at the scene of such a wonderful looting scheme and thought to cancel it. I then was enlightened about the surrender charges and I realized that I would have to pay more to surrender it :-) 

This was the mistake part of my investment life. I thanked my investment agent to teach me a wonderful lesson. I realized the importance of reading the fine print and more importantly, understanding the personal finance. That event left me a much more learned and motivated person.

Many many thanks Mr Agent!!!

P.S I still pat my back for not felling for this. The first year charges are 100%.

Stock selection methodology

Having served the role of project manager for a few projects, I like to present everything as a WBS. So here is my long promised my WBS for stock selection. It still needs a PERT chart analysis. Stay tuned...

A few dividend stocks I am looking into

I am looking into these three dividend paying stocks. The current filter criterion is dividend and nothing else. If this screen test passes I shall look into other matrices.
The graphic above tells the dividend paid as percent. This can help us analyze the dividend trend, stability and deviation (I use standard deviation to measure deviation).

I make a dividend portfolio which will give me a stable income after a few years, I am much interested in stable (if not increasing trend). I will put "Andhra Sugar" off based on this criterion. Having left with Castrol & Valson, it is imperative to understand yield part of the dividend. I will use today's prices to calculate the dividend yield. This will help me understand the trend.

Valson has been giving consistent dividends of more than 8%, it is much more than any A grade bond and FD provides today. At this stage I will place this stock in my to further screening criterion.
A closer look as Castrol dividend yield chart reveals that is has picked up an increasing trend. The financial health of the company is good and the brand image is good. I have multiple reasons to believe that it will yield 8+ % in coming 5 years. This should go to my dividend portfolio for sure.

My equity portfolio allocation

This is the state of my current portfolio. In spite of heavy rebalancing it is still tilted towards oil & gas sector. Any government policy change can decide the direction of my portfolio.

This metric is based on the current capital allocation. The another metric I follow for rebalancing is dividend income. I dont want my dividend income to be tilted on any side otherwise the stability factor goes away.

My current asset allocation

Since quite some time I have been working a lot on my asset allocation. Asset allocation is one way of reducing the risk possibility.

I strongly believe that bonds and debts should be much more than 30% in once portfolio for that provides a solid foundation.

Bharti Airtel : Express your self

I am a great fan of good management. In fact this is my one of the stock screening criterion. Two days back I was reading an article in hindubusinessline.com. The article was about another great personality I admire. I admire him because he talks of future.

....There are 600 million phone users in India whereas the country has only 55 million bank account holders. The way towards financial inclusion — getting the unbanked into the net — is through the mobile money route, feels Sam Pitroda, tech evangelist and currently advisor to the Prime Minister on public information infrastructure and innovations.

In his new book, The March of Mobile Money, co-authored with Mehul Desai, CEO of C-Sam Inc, a company that Pitroda founded, the two discuss the disruptive nature of mobile money technology....

Just after reading this article, there was a flash in my mind. What if the competition mired mobile companies enter into mobile money. Then I thought, who else but great Sunil Mittal can take such a step. Wish I could have asked for something else as what I wished came true. Bharti Airtel has got the license for mobile payment. Is he fond of creating bule oceans?

I am happy about my continued long position on Bharti Airtel. I have been acquiring it since 280 levels. I am very long on good managements.

Dividend Investing

I am a big fan of dividend based investing. I have learned and incorporated this methodology of investing after burning my hands in 2008 crash ;-) and reading tipblog. I simply adore this guy.

Anyway coming to the point of investing. I have become great follower of dividend based investing for these few reasons.

1. Dividends provide a steady stream of income: Dividends work as additional source of income on which you can count on (provided your stock selection was good). It is largely different from the movement of the stock prices in the market. During FY09-10 my dividend income was Rs 11,004 (tax free). Secondly a consistent stream of income is always better than money once at a time.
   
2. Dividend stocks prices mostly go up: In my investment experience I have seen that dividend paying companies are always relied upon by many investors and gradually the stock prices go up. In fact I used dividend yield as one screening criterion for stock selection. My recent dividend investment was Tata Steel. I started acquiring it from 475 levels up to 500. My average dividend yield is close to 4%. Since then I have seen a steady rise in the stock price. Currently it has crossed 600 level.
   
3. Dividends increase: Generally big and mature companies become dividend paying companies. We may not see meteoric capital appreciation in such stocks (and truly speaking dividend investing is not much about capital appreciation). Smaller companies need more capital to grow thus cannot afford to pay dividends (and taxes). Big organizations earn lots of profit, thus can afford to share in spite of having growth plans. I generally like companies having 20%-30% dividend payout factor. In my stock selection I have seen that dividends have increased (in rupee value) consistently. I firmly believe that 4% dividend yield will become at least 8% in next 5-8 years. And if India has to grow, interest rates will have to come down in near future. Which security will give me 8% (and increasing) rate of returns after 10 years?
   
4. Dividends have benefit of SIP: Why SIP is good? It is good because if promotes rupee cost averaging. What to do with dividends? In my view dividends should be reinvested as the stock price comes down. This will help increase the portfolio value and with the effect of compounded interest, my retirement will be peaceful.

My recent dividend stock picks: Tata Steel, Titan Industries, IDBI bank

How much insurance cover do I need

If we ask a typical agent, they come up with the magical figure of 10 times of annual income. I was also advised this almost an year ago. The logic they probably have is that a person with X income would easily be able to pay "X/some number" amount of premium easily. At least I don't subscribe to this logic.

~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
Consider Mr X: A typical Indian family man
He is married
30 years
Has a home loan for which monthly installment is 35k
Has a car for which installment is 10k a month
Has dependent parents, non working wife and a one year old girl child
Earns 10 L PA (take home after taxes)
~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

As per our bright insurance adviser, he should take cover of worth 1 crore.

Suppose Mr X is dead now and his family gets 1 crore. As per current standard of living the monthly expenses would come around 10-15k. Lets take 10k for simplicity of calculation.
Total amount needed monthly 35 + 10 + 10 = 55k
Lets assume that Mr X's family will keep 1 crore in some FDs (considering the 0 risk tolerance) which will safely beat inflation (a big assumption). With 55k as monthly expense, 1 crore would barely last for 15 years. ( I have assumed that car loan will always continue, it will not make much difference int the final conclusion)

This amount doesn't include cost of sudden medical emergencies (which are very likely due to old parents and young child). It doesn't include the cost of education which is going to be very high as time passe and this amount certainly doesn't include the cost of marriage of his girl child.
If we include these factors, the insurance amount should be increased by at least 50 lakhs.
But no adviser will suggest you because they are not trained to do so.

~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
Now lets take Mr Y, a typical software professional
He is married
30 years
Doesn't have a home loan, his parents have one for him
Has a car for which installment is 10k a month
Has dependent parents
A working wife and a one year old girl child
Earns 10 L PA (take home after taxes)
~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

Suppose Mr Y is dead now and his family gets 1 crore. As per current standard of living the monthly expenses would come around 10-15k. Lets take 10k for simplicity of calculation.
Total amount needed monthly 10 + 10 = 20k
Lets assume that Mr X's family will keep 1 crore in some FDs and Equity mutual funds (considering there is one earning member, thus some risk can be taken) .
Lets assume 50L is invested in FD (and MIP) and rest is invested in Equity MF (assume 15% CAGR very safe assumption) .With 20k as monthly expense (in this case car loan will actually stop much before), invested 1 crore would last for more than 70 years. And if invested properly, it will last for even more.
Mr Y's wife's earning will easily take care of his daughter's future cash flow needs.

With the help of these two examples, we can easily establish that the magic figure 10 doesn't make any sense. Cover amount should be estimated individual's risk profile and current financial condition.

Term plan and unawareness all around

What do we think when we think of life insurance? I guess endowment plans!!!
This is what one of LIC agents told a couple of days back.
~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
Manish Sir,
XXX is the best policy.Its features are:
Tax Bft:Deduction u/s80C of Income Tax Act,1961.
Period Covered:For first 20 years(with premium)
After that upto Age of 70 years
(without premium)
Premium: According to Age
Bonus : Rs. 6000 p.a.
Addl. Incentive : Rs. 20,000 after 20 years
Accidental Death : Double the policy amount.
If you take Rs. 1 lakh policy you will get Rs. 2,40,000 after 20 years (if you don\'t die).
If death takes place your legal heirs will get Rs.1,00,000 more then the due amount.
~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

I calculated premium for sum assured 100,000 for 20 years tenure for me. It comes around Rs. 5660. So if I "invest" 5660 yearly, I will get a tax benefit and my family will get 100,000 or 240,000 depending upon the situation.

Give me a break! My life if worth 240,000? What would my dependents do with 240,000? After all life insurance is a way to protect my from financial loss in future if I don't survive.

How much protection is needed can be roughly estimated; but for the sake of fun, lets take it 10,00,000. For me the premium comes whooping 55,000 per year. Is it really worth?

I guess the 20,000 bonus and 6000 bonus part can be easily ignored. It is just a marketing gimmick.

If we look at historical performance of any endowment policy, none has given more than 6-7% returns compounded annually. If we take the best case scenario of 7% and pay 5660 per year, what I get in the end is 5660*(1+0.07)^20+5660*(1+0.07)^19....5660*(1+0.07)+ which comes around 2,48,276. This is what I get in the end if I survive; If I lose my life in between my family would be showered with 1-2 lakhs and nothing more. This return doesn't not even beat inflation and the insurance amount doesn't cover anything. It wont last even 6 months for my dependents.

By now I have established that endowment policies are not suitable for me. I understand 2,48,000 will not have any meaning after 20 years; So let me think about a plan that doesn't give me anything if I survive but gives a good protection in my absence. Take any term plan for example. I am taking icici's iprotect for illustration purpose.

Sum assured (50,00,000) (this is what my family gets if I die)
Policy term (30 years) (till I am 60) (makes sense, I am sure I will not have any dependents after 60)
Premium only 5600!!!

We dont need to be a finance guru to understand the difference between 100,000 and 50,00,000. The only problem is that I don't get anything if I survive. I lose 1,50,000 over the period of 30 years in this case.

disclaimer: I am not saying that endowment policy is bad and term plan is good. I am not also marketing ICICI's iprotect plan. My only concern is think before you buy!!!

New DTC, a relief for investors

I was very tempted to write about DTC and its implications on normal salaried employees as well as on stock investors but by the time I decide a new draft of DTC was presented. Admittedly, I was little lazy but better late than never. I assume the latest version of DTC in its current form is quite stable and may not need a big change henceforth. In any case it will be applicable from April, 2012, there is still a lot of time to not to think about it.

Affect on investors:
As per one of its clause, the short term capital gain tax will be applicable only on the 50% of the profit thus in effect the tax will be 5%, 10% or 15% dependent upon individual's take home. This move will attract lower income people to come and join the spree of stocks :-)
The long term capital gain tax, as it currently is at 0%, has been not touched in the revised DTC. This is a refresher. SIP investors were literally worried on the prospects of their life time savings being taxed at the time they need the money at the most.

But such things are not in our control and I believe we should not worry at all about them. Whatever comes will be applicable for all, so in effect it will make little less difference.

By the way, does anyone smell a trader's, broker's & mutual funds' lobby?

Interest rates and their effect on stock market

Every now and then we hear about RBI planning to raise interest rates to tame inflation. How does interest rate tame inflation may be little complex if we go into the detail but from a broader perspective a token raise in interest rate tightens the money supply in the market. Now there will be lesser money and the same amount of goods available (in the short run) in the market. The buying power of money increases. This is valid for a short run only. On long runs, producers find ways to tackle; they will either decrease the production or will move to some other rewarding business. Both the steps will bring up the prices.

But how does interest rate affect stock market? For businesses interest rate is the cost of money or funding. If rates increase, they will have to pay more for the money. This will (again short run) bring down corporations margin, thus free cash flow, thus the net profit per share. Since the cash generating power of corporations comes down, the price people would want to pay for the stocks will be less. The market in general comes down.