Lack of financial knowledge: A friend visited a bank branch some time ago to invest Rs 2 lakh in a tax-saving fixed deposit. But plain-vanilla fixed deposits don’t pay commissions, so the relationship manager there persuaded her to buy a unit-linked pension plan. My friend thought she would have to invest Rs 2 lakh per annum for five years after which she would receive a guaranteed pension of Rs 10,000 per month for life. In reality, this was a product where she had to invest Rs 2 lakh per annum for 10 years. There was an option to discontinue paying the premium after five years. At the time of vesting (after 10 years), or whenever she surrendered the plan, she could withdraw up to one-third of the accumulated corpus as lump sum and purchase an immediate annuity plan (at prevailing annuity rates) with the balance. The product did not offer guaranteed returns, as she was made to believe. Would she have invested if she had understood what the plan actually was? Would having an adviser have helped?
Evaluating products after investing: Many people approach me a few weeks after they have purchased a traditional life insurance plan. “I needed to save tax. I have invested in XYZ plan. Should I continue to pay the premium or should I surrender the plan?” they ask. My answer to them is: “Should you not have done the research before purchasing the plan?” Unfortunately, a lot of people act before thinking. In a traditional plan, if you surrender the plan after paying the first premium of, say, Rs 1 lakh, you will lose the entire amount. If you had sought professional advice before purchasing the plan, would you not have avoided this costly error?
Searching for best mutual fund is not research: Many people type “best tax-saving fund” or “best mutual fund to invest in” in Google and look for an answer. Many blogs put up lists of top 10 mutual funds to invest in. Such posts garner the highest number of comments. Many people pick funds based on past returns. But these approaches are simply not adequate. What might be a good investment for one investor will not be so for another. The right investments need to be selected based on an investor’s time horizon, risk profile, and so on. A simple Google search will not take these factors into account.
Selecting the right debt fund is even trickier than picking a good equity fund. With equity funds, you could do well even by just investing in a highly-rated fund (though there is no guarantee). In case of debt funds, you cannot rely on ratings alone. Even if you invest in a five-star rated long-term debt fund, you could end up making losses in six months to one year if interest rates move up. Many investors who bet on credit risk funds (which invest in lower-rated papers) are losing sleep over the spate of corporate defaults that have happened in the past year. Merely investing in funds based on their past performance is not enough. Investors also need to understand the product’s overall risk-return profile and their own goals. Again, an investment advisor could have helped.
Do you need a financial planner?
Not everyone needs an investment advisor or a financial planner. At the same time, not everyone can be a do-it-yourself (DIY) investor. There is nothing wrong in acknowledging if you are not one. Not all of us are doctors or surgeons. You don’t search for treatments or medicines on the internet beyond a point. If one round of home remedy or self-medication fails, you approach a doctor. Similarly, you must decide if you need help with financial planning.
If you think you need it, get a planner.
Upfront versus total cost: Many people do not opt for professional advisors because their fee seems steep. Instead, they seek advice from sellers of products, without paying heed to the inherent conflict of interest. A salesperson is unlikely to point out the shortcomings of a product
Many advisors charge only a fee from their clients. They do not get a commission from product manufacturers. There are others who offer advice for free but get a commission on the investments their clients make. Whose advice do you think is likely to be more unbiased? The fee-only advisers may appear expensive compared to the commission-based advisers. But you must focus on the overall cost and not just the upfront price you pay to the former.
Five financial mistakes that can cost a fortune
Investing in a product based only on the final sum the seller says you will receive at maturity, without calculating the annualised return
Investing based on the promise of exclusivity (in products like PMS and AIF) without understanding the underlying risk (like its mid- and small-cap orientation)
Buying insurance-cum-investment plans where the cover could be inadequate and the returns also low
Purchasing inadequate term and health cover for yourself and your family
Not paying heed to charges
The writer is founder, PersonalFinancePlan.in. He is a Sebi-registered investment advisor