Financial literacy is an absolute essential and should be a continuous learning right from your school days. Unfortunately, that is not the case. We are woefully unaware of basic financial concepts and this ignorance can be really harmful - both mentally and physically. Here are 5 important things that one should know about personal finance.
Savings & Investments
The very first thing to know is that savings and investment are two totally different things. Saving is the money kept aside from your income for short term needs and can be easily accessed whenever required. Investment on the other hand, is the part of the saving that is employed for the purpose of growing its value to meet long term financial goals. Investment needs a good bit of financial knowledge – taxation, pros and cons of the multitude of investment options, cognizance of one’s risk appetite, well defined financial goals. It also requires consistency and discipline and of course the motto is “START EARLY”. To know more, read my other blog - Are Savings and Investments the same?
📌 Related Reading: How Inflation Affects Your Savings and Investments
Financial Goals
Imagine you start your first job. It’s just the start of your career so you want to enjoy a bit and not worry of responsibilities. Fast forward 10 years later you’re married, and the responsibilities start knocking at your door. Now you wonder why you didn’t start investing for the future which you see for yourself – a cozy house, a complete family with kids, their education, etc. This is a common scenario when one does not have well-defined financial goals. The goal must be – like any other goal in life – SMART (Specific, Measurable, Achievable, Rational Time bound). In the above example, if you had goals while starting your job like “an emergency corpus of Rs. 1 Lac in a saving account by 12 months after starting my job”, “buying a small car within a budget of Rs. 8L in the next 3 years”, “down payment for a flat with a budget of Rs. 1Cr. in the next 10 years”, you would have specific financial targets in mind and would adjust your expenses, lifestyle, and investment portfolio accordingly.
Compounding
The most potent weapon in your investment arsenal is the magic wand of compounding. Compounding simply is the accumulation of compound interest on your investment & returns over a period. The longer the duration, more will the compounding effect be – hence you will often hear “not get out of the market” – whether it is your Mutual fund portfolio or stock portfolio or any other asset class. Staying invested is the credo to live by.
Example: Investing ₹1,000 monthly in a mutual fund for 5 years at 12% CAGR grows to ~₹90,000. The same for 10 years grows to ~₹2,40,000 — illustrating the power of time in compounding.
Inflation
We all hear the word inflation from time to time and relegate it to some economic or financial jargon that “does not affect me”. Ignorance is certainly not bliss here; it in fact could be a killer. Inflation has a huge impact on all our lives, whether we like it or not, right from the value of the money in our banks, to the return on our investments, to the interest on our loans, even the vegetables we buy in the market.
Example: ₹10,000 saved under a mattress today will have a purchasing power of ~₹5,584 in 10 years if inflation averages 6% per year.
Portfolio Distribution
It is simply the distribution of your wealth in different asset classes - equity, real estate, debt, gold/silver. An ideal investment portfolio should include a healthy mix of equity (40-45%), bullion (10-15%), debt (15-20%) and rest of the allocation to real-estate.
The real estate bit here is extremely personal. One might be totally fine with renting for the rest of their life while another might want the satisfaction of having their own home. In any case, there is a view that renting makes more financial sense than buying in case of a house and I personally agree with this. But again, it is a very emotional and personal decision.
Either way, real estate should not be more than 30% in your basket; most middle class Indians have 70-80% of their total assets in the "real estate" bucket, which is not ideal at all.
FAQs
What is compounding in personal finance?
Compounding is earning interest on both your initial investment and the accumulated returns over time. The longer you stay invested, the greater the growth.
Why should graduates learn money concepts early?
Early understanding helps in making informed decisions, avoiding debt traps, and taking advantage of compounding and tax benefits.
How does inflation affect savings?
Inflation reduces the purchasing power of money. Savings underperforming inflation will lose real value over time.
What’s the best portfolio mix for young earners?
A balanced mix of equity, debt, bullion, and real estate, tailored to risk tolerance and financial goals, works best for long-term growth.
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