Financial Mistakes Young Investors Should Avoid
I have discovered a common characteristic among the young people who have begun to earn and feel good about it. They do not engage seriously with money or investment decisions. There are several excuses—not enough money; too many choices; very complex; uncertainty about where to start; too much paperwork.
While they procrastinate about money, they allow their money life to play out by default. Let’s consider a few common issues.
First, many young earners think that managing money is complex and is not for them. This is when they have already opened a bank account, taken a credit card, and a loan for a motor vehicle. Money decisions have to be made by default or design once you start earning. The simplest way to understand personal finance is to see yourself as an asset that generates income.
If you save and invest, you are buffering the income. If you spend more than you earn, you need a higher or an alternate source of income. If you borrow, you create liability and take away from the future income.
Beyond these four ideas of your assets, the income they make, the expenses you incur and the loans you take, there are no personal finance decisions to take. Evaluate every money decision in this context.
Second, youngsters tend to whine and complain when the world they see and experience is different from the comfort zone that they are used to. They revel in the problem, become cynical, crib about how it makes their life difficult, and spend too little time on solutions. Protective parents make the process of growing up tougher.
The simple rule is that money decisions require action, and this calls for evaluating the alternatives and making a decision. I have known of intelligent students processing complex case studies in class, but unable to fix a healthy meal for themselves at the hostel.
They do not see that this problem also requires a similar solution-oriented approach, with real-life constraints of time, energy, resources and skills. The 2-minute noodle has been a hostel staple for way too long. This quick-fix approach continues in the young people’s money lives, where the search is for quick, comforting solutions that are easy to arrive at.
Young investors need to think strategically as if they were a business unit. Without this orientation, they may remain, clueless earners, who do not know how to make money decisions.
Third, procrastination about money is simply irresponsible behaviour. Several youngsters have not opened their bank statements, haven’t deposited the dividend cheques, not filed the tax returns, or completed the KYC process with a mutual fund or broker.
They have a PAN card since the employer insists on it. The taxman would want to know if they can establish how they built their assets, and whether they paid the taxes on their income before doing so.
Those who share transactions for fun also create short-term taxable capital gains, and there are penalties for not paying these. Assuming you won’t get caught is a bad idea.
Keep empty shoe-boxes to store statements, bills, papers, and notices and take the time to sort them periodically. Form groups to know how to file your tax and do it on time. These habits, if developed early on, will help as you move up in your career and can afford to hire someone.
You can avoid being ripped off if you deal with your paperwork in the early days.
Fourth, several young investors are overconfident about their future incomes. They believe that they can find a new job since a growing economy like India would have opportunities. They also are big spenders since they do not visualise a dark future for which they have to set money aside.
Instead of defining saving as the amount left after spending, it might be a good idea to set some money aside right at the start. The direct debit options that take money away from the salary account, systematic investment plans that ensure money is invested regularly, and deposits that are created when the savings account reaches a limit, are all good options to ensure disciplined saving.
To spend is to make the seller rich; to save is to make ourselves wealthy. It always makes sense to pay ourselves before paying everyone else. Fifth, young investors are very tech-savvy and should find out how modern technology can impact their financial lives.
The high default in educational loans comes from ignorance about technology that credit bureaus can use to aggregate repayment records. When the home loan is rejected because one fails to pay an education loan, it is too late and expensive to make amends.
The core banking solutions ensure that money can be easily accessed, used and transferred without recourse to a physical branch, by using the Internet and mobile banking instead. This, however, also means dealing with new risks of password protection, guarding against phishing and Internet frauds, and keeping an eye on salesmen who ask for account access to ‘make it easy’.
It is now possible to aggregate all the money transactions into applications that help budgeting, spending, investing and recordkeeping. The youngsters should leverage their ease with technology to make money transactions simpler and more efficient. Sixth, many young investors start at the wrong end of the investing spectrum.
Several think that speculating in stocks, buying a few IPOs, or conducting derivative transactions are the easiest ways to make money. It is pertinent that various management schools have stock and derivative trading games, not ones on asset allocation.
The former is a high-adrenaline activity that creates a buzz; the latter is a life skill, but quite boring. A solid foundation for creating wealth is through staid and straightforward products, such as fixed deposits and PPF accounts.
Diversified large-cap mutual funds and bonds can be added to this gradually. The speculation comes last, and should only contribute marginally. Young investors need to build a solid base first.
Young investors have time on their side. Anyone who has dealt with money will be able to tell you how magically compounding can work if good investment decisions are taken early on. It will be a pity if this is frittered away due to procrastination or unwillingness to learn the ropes.