4 beginner theories on Finance

Last Updated: May 04, 2015 | 435 Views
Money is extremely exciting. It occupies our pockets, our minds and our lives too in a phenomenal way and few of us can stay away from its lure. The financial world has aptly recognized man’s need to play with money in different forms in different ways. Thus, there has been an ever increasing array of financial products.

Having money less than our need is definitely a concern. But having it more than what meets our need is stressful too. Either ways, this magical world of finance has a solution to offer. Just like any magic trick that is deep rooted in science, every aspect of the financial world is essentially based on solid theories. For most of us, unravelling the inherent magic in these theories may not be the goal. The goal is to venture into the financial world for which, application of this knowledge is essential:

1.  Secure your identity before someone secures yours
In any investing, buying or borrowing of a financial product, establishing our identity is one of the primary procedural requirements. It is so basic and straightforward that for many of us it is unimaginable that non-adherence to such a simple procedure is at the root of major financial frauds! No service provider is authorized to provide information or proceed in any way on our account without confirming our identity. We may tend to frown upon an executive seeking to know if we really are who we claim to be. Instead, smile knowing the fact that the procedure is designed for our protection.

While establishing our identity is a basic norm, seeking to know passwords or pins to our account is absolutely never a requirement. These codes are called ‘confidential’ for a reason. No situation can be so challenging that demands us to part with these codes. Confirming our identity is the responsibility of every financial service provider whereas; onus of securing our passwords is solely ours. 

2. Know what you are paying for by identifying a product and service separately
Every product is intertwined with a service. If a book is the product we want to buy, it is the services of a local store that makes it available to us. Similarly loans, credit cards, insurance policies and other investments are ‘financial products’. Banks, NBFCs and Insurance companies make these available to us and that is the service they provide. Every product has a cost and so does every service.  Interest cost, premium payments, penal charges are inbuilt costs in a financial product whereas processing fees, commission and such charges are for the service. Knowing the cost of product separately from the cost of service is a simple activity which once done, provides a great deal of clarity and thus facilitates faster decision. This activity can be further eliminated by directly using services of various sites that are dedicated to breaking down and comparing these costs and charges across service providers for financial products.  Using such online web based services would be a smart thing to do for a customer especially because it comes at no cost at all.

3. Risk and return are never in an inverse relationship
It is a given that higher the return, higher is the risk. While most of us acknowledge the direct relationship between risk and return, what we do not consciously acknowledge is that this risk can be covered only by investment in terms of our time. Understanding the impact of various market forces on our money involves a lot of analysis and study. Hence, however tempting it may seem, a first time investor must limit investment in high return products to a bare minimum. Investments in relatively low yielding deposits and bonds must constitute a major proportion at the beginning. A small proportion can be towards a demat account for trading in stocks, derivatives, futures, and such complex products. Reversing this ratio must be done only gradually once we have gained a sufficient control.
While we seek means to invest our savings, we also use certain financial products to make up for the shortfall in our personal finances or to insure ourselves. The risk in the products like loans, credit cards or insurance policies is borne by the financial institution and not by the customer. If we are a potential ‘low risk’ customer a product can be availed by us at a lower price as compared to a potential ‘high risk’ customer. Assessing our risk profile is not necessarily pleasant.  What we must do instead is to filter out the products that match not only our requirement but also our ‘eligibility’ and then choose the one that costs the least.

4. Tracking and reviewing makes a better player
Settling our dues, timely payments of instalments, reviewing investments, paying premiums, etc. invariably become a part of our routine. Hence a proper tracking is crucial. Else, it is easy to slip away and the magical world of finance suddenly turns into a confusing maze. Tracking could be in any form ranging from a conventional filing, a simple spreadsheet, a software or a sophisticated mobile application. Irrespective of the mode, the important thing is to have an efficient system that we are comfortable using.  

Such review and tracking is important not only to make the most of our financial product but also to reflect a sound story on our financial behaviour. Our discipline in terms of servicing loans, settling credit card dues etc., are important information saved with credit agencies like CIBIL. A decent track record is important to maintain from the perspective of continuing to enjoy these products in future.

A great magician may use the knowledge of a simple law of gravity and other scientific theories to jump off a high rise and still land on his feet.  Lesser mortals like us may not necessarily have that inclination or skill. However, knowing the law of gravity does help in many ways to keep us ‘grounded’ on planet earth.  Similarly these theories on finance are important for us to gain a foothold in the dominating financial world. How we choose to build upon them and create our own magic is up to us.

Shrilekha Nair
Shrilekha is a Chartered Accountant, Professional Trainer and a Student of Fine Arts. She has 9+ years experience in the financial services, education and e-learning industry