Thumb Rules for Investing

Thumb rules are aimed at beginners in the field of Savings & Investments. In my experience, some of these rules provide a good baseline; but based on risk tolerance, time horizon, and individual circumstances, there may be reasons why a financial rule of thumb may not align perfectly with an individual investor’s circumstances.

Altogether there are 14 thumb rules on different aspects of investing listed below:

TR#1. Emergency Fund Rule: Prepare for the Unexpected

As the name suggests, the money kept aside for emergency use is called an emergency fund. It is a good practice to keep six months to one year’s expenses as an emergency fund. While calculating your expenses you should include expenses for food, utility bills, rent, EMIs etc. And instead of keeping it idle in savings bank accounts invest in liquid funds. These funds provide a little more returns than savings bank accounts. At the same time, like saving banks accounts, liquid funds are highly liquid, i.e. the money is available in very short notice

Some experts keeps minimum period as 3 months. Pl understand that Emergency Fund  is to keep going till another equivalent or better income source materializes. It depends upon the individual’s profile and related job market.

In the current circumstances, 3-6 months salary /expenses may be appropriate compared to Covid-19 period, when 6moths to 1 year was expected

TR#2. The 10,5, 3 rule: What kind of returns one  can expect from their investments.

The 10,5,3 rule offers a simple guideline. Expect around 10% returns from long-term equity investments, 5% from debt instruments, and 3% from savings bank accounts.

Aim to save at least 10% of your current salary for retirement, increasing it by another 10% each year. This disciplined approach can help you build a substantial retirement corpus over time.

TR#3. Rule of 72: Doubling Your Money

A simple formula that allows you to estimate the time it takes for an investment to double in value. Divide 72 by the annual rate of return on your investment, and you'll get the approximate number of years it will take to double your money. For example, if you're getting a 6% return, your money will double in approximately 12 years.

The Rule of 72 is a powerful tool because it gives investors a quick way to assess the potential growth of their investments. By understanding this rule, investors can make more informed decisions about where to allocate their capital and how long to hold their investments.

TR#4. Rule of 114: Tripling Your Money

The Rule of 114 tells you how long it will take for your money to triple. Similar to the Rule of 72, divide 114 by the rate of return to find the number of years. With a 6% return, your money will triple in approximately 19 years.

Tripling your money may seem like a distant dream, but understanding this rule can help investors set realistic goals and make strategic investment decisions.

TR#5. Rule of 144: Quadrupling Your Money

For those who dare to dream even bigger, there's the Rule of 144. This rule tells you how long it takes for your money to quadruple. Divide 144 by the rate of return, and you'll know the number of years it will take. At a 6% return, your money will quadruple in about 24 years.

TR#6. Rule of 70: The Impact of Inflation

How much time will take my corpus to loss 50%  in value, if inflation is known? 

For example, let’s suppose you have Rs 50 lakh and the current inflation rate is 5 percent. So going by the rule of 70, your Rs 50 lakh will be worth Rs 25 lakh in 14 years.

TR#7. Budgeting Rule

Your Income is divided in the ratio of 50:30:20= Needs: Wants: Savings

U.S. Sen. Elizabeth Warren popularized the 50/20/30 budget rule in her book, All Your Worth: The Ultimate Lifetime Money Plan. The rule is to split your after-tax income into three categories of spending: 50% on needs, 30% on wants, and 20% on savings

TR#8. 100 Minus Age Rule: Asset Allocation

 For example, say you are 25 years of age. In that case, the asset allocation for your portfolio according to the ‘100 Minus Age Rule’ will be as follows:

·         Equity: 75% (100 - 25 years)

·         Debt: 25%

Similarly, for a 40-year-old investor, the asset allocation will be as follows:

·         Equity: 60% (100 - 40 years)

·         Debt: 40%

TR#9. The 10% Rule for Long Term requirements like Retirement

Starting to save from your first salary, no matter how little the amount is, you will be able to create a huge corpus for retirement. And ideally it should be 10 percent of your current salary which you should increase by another 10 percent every year

Example

Calculating Retirement Corpus
Current age	25
Investment amount every month	₹3,000
Percentage of increase in investment amount every month	10 percent
Average rate of return	10 percent
Retirement age	60
Tenure of investment	35
Total retirement corpus	₹3.4 crore

So, simply by investing Rs 3,000 every month, and stepping it up by another 10 percent every year, you would be able to create a corpus of Rs 3.4 crore. 

TR#10. Life insurance coverage 5 to 10 times your income

A life insurance policy that covers 5 to 10 times your annual pretax salary may be enough to help protect your family if something should happen to you.

TR#11. The 7-5-3-1 rule of SIP

The  Systematic Investment Plans (SIPs) has long been popular among investors looking to build wealth over the long term. With a disciplined approach to investing, SIP is an automated investment plan that allow individuals to invest small amounts in their chosen mutual funds regularly.

While SIP investment is a simple means to grow your funds over time, market volatilities can affect your investment returns. At such a time, being steady with your investment strategies can help you maximise your SIP returns. One such effective strategy is the 7-5-3-1 rule of SIP.

The Period=7 year

Historically, equity investments are known to perform better in the long run, and having a minimum investment period of seven years allows your investment to grow by capitalizing on the power of compounding. In the short-term, the stock market can be highly volatile, which might not allow your investment to sustain the fluctuations and generate decent returns. So, being patient with your investment with a seven-year horizon gives your funds the time to grow and turn the regular SIP payments into a substantial corpus over time.

 

Portfolio with the 5-finger framework

A critical aspect of investing in equity funds is diversification, which allows you to build a stable portfolio over time. The 5-finger framework aims to deliver superior returns and minimise risk with a diversified portfolio across various asset classes and investment strategies.

This includes spreading your investment based on 5 areas-

A. Quality: Invest in the stocks of well-established companies that have a history of strong, favourable performance. Such high-quality stocks help stabilise your investment during volatile times.

B. Value: Value stocks are the under-valued stocks in the market with a high potential for great returns. These stocks typically trade at a price lower than the inherent value of their company, but offer good value for money.

C. Growth at reasonable price: These stocks offer high growth potential at low market volatility.

D. Mid/Small cap: Mid and small cap companies hold immense growth potential and can generate substantial returns for the investors. They diversify your portfolio by adding a different market cap segment.

E. Global: Investing in global stocks can offer untapped opportunities for growth and provides a hedge against domestic risks.

the 3 phases of investment cycle

While SIP investments in equity funds tend to yield decent returns in the long term, you must be prepared to survive the three inevitable phases of failure in the beginning of your investment journey.

A. Disappointment phase: During this phase, you might encounter subpar returns (7-10%).

B. Irritation phase: In the next phase, your investment returns might drop even lower than expected (0-7%)

C. Panic phase: This is the phase where your investment returns become negative

These phases can occur due to volatility in the market. However, they are only temporary and the market tends to recover over the next few years.

Increase SIP amount after every 1 year

What makes SIP an attractive investment strategy is the ability to start small. However, gradually increasing your investment amount – specifically after every 1 year can make a big difference to your portfolio value in the long run.

TR#12. Another related rule is 100 installments holds the key.

This almost aligns with the TR#11 above as 100 installments per month translates into apprx 8 years plus.

 

TR#13. The 4% Withdrawal Rule: Sustainable Income

During retirement, it's essential to ensure a steady income stream while preserving your savings. The 4% withdrawal rule suggests withdrawing no more than 4% of your retirement corpus annually. Adjust this amount for inflation to maintain purchasing power.

This rule helps retirees strike a balance between enjoying their retirement years and ensuring their savings last a lifetime.

For example, if you have a retirement corpus of ₹2 crores, you need to manage your expenses in such a manner that your annual spending is limited to ₹8 lakhs.

TR#14. The Net Worth Rule: Assessing Wealth

Multiply your age by your gross income and divide by 10 (or 20 in India). If your net worth exceeds the result, congratulations – you're wealthy!

 In India, the experts say the divisor should be 20 instead of 10. So for example, if you are 30 years old and your gross income is Rs 12 lakh, then your net worth should be at least Rs 18 lakh to be called wealthy. 

Happy Investing

You may also be interested in 

1. Why Rich become more Rich and poor Middle class remain poor?

2. SIP- The all weather investment approach

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