One may decide to invest for varied reasons. However, reasons for investing can be broadly classified into three. These can be summarised as below: -
(A) Investing for Parking of Funds
(B) Investing for Regular Income
(C) Investing for Wealth Creation
Investing for Parking of Funds
Investing for parking of funds is done for the short term where one needs liquidity to address any contingency. Traditionally for such instances, families have relied on Savings Account or keeping money in cash in person. Here, the importance is given to safety and liquidity rather than returns. In the event of an emergency, one should be able to access cash without any loss of time or value.
Investing for Regular Income
Investing for regular income should be done when one has exhausted all sources of reasonable income. Or when one needs to supplement his/ her current income to meet survival needs. One example of investing for regular income is investing the accumulated corpus post-retirement for generating regular income.
There are two phases of human life. The first phase is the accumulation phase. This is the phase in which one starts working after completing his / her education and earns an income. This is also the phase when one starts saving for the future.
The second phase is the distribution phase. This is the phase where one has stopped working or has retired. Most of his responsibilities are over by this time like children’s education/marriage. This is the phase during which one survives on the accumulated corpus by investing the same for regular income. As long as one is earning enough by way of salary income / Business Income, one should not be investing for earning a regular income.
Investing for Wealth Creation
The most important reason for investing is to create wealth in the long run. The worst situation that can happen to anyone is to outgrow their wealth. Hence, to avoid it, one should start investing towards the creation of wealth from the time one starts earning or gets his first paycheque. There are no shortcuts. Long-term wealth can only be created by starting early, being persistent and being disciplined with investing. Assuming a life span of 100 years, the average productive human life where one works and earns is only 35 – 40 years. During this phase, one must not only carry out his / her responsibilities and provide for the family but also must invest for a better future.
The first 20 – 25 years of a human is the growth phase where one is learning and equipping oneself with skill sets to become a productive part of the population. The next 35 – 40 years a person goes through many stages, starting with being a young earner with no responsibilities to starting a family with increasing responsibilities till his retirement from active working life by which time he would have finished all his responsibilities.
The last phase is the distribution phase. This phase starts from the day one quits active working life when income from salary or profession stops. This is the period when one has to survive on his / her accumulated wealth. Hence, it becomes very important that one invests his accumulated wealth in such a way that it not only provides regular income but also grows keeping in pace with inflation.
As earlier mentioned, one may invest for varied reasons. However, the biggest mistake investors do while investing is that they focus more on the best products available in the market rather than choosing the right product that fits their needs. Investors chase products giving the best returns in the market without understanding the product itself. Product selection is the end of the investment process and not the beginning. Product selection should be based on your investment goal, the time horizon attached to it, and your risk appetite.
Understanding these basic concepts are important before one starts his / her investment journey. The success of your investments depends on it.