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Investor Education Initiative

From PPFAS Mutual Fund
Sponsor: Parag Parikh Financial Advisory Services Private Limited

PPFAS Asset Management Private Limited

[Investment Manager to PPFAS Mutual Fund] www.amc.ppfas.com
Inside...

The magic of compounding 4

True investors are the real winners in the long term 5

Owning a business vs owning Shares in a business 6

Financial Planning and Asset Allocation 8

Skin in the game 11

Which is the ‘best’ time to enter the market? 13

Nominal vs Real Return 17

Systematic Investment Plans 19

Booklet Date : April 1, 2019

Investor Protection = Regulation plus Education. 5

 Albert Einstein the renowned scientist had said...

Compound interest is the eighth wonder of the world.

He who understands it earns it and.....
he who does not, pays it.

Luckily for us, we do not need the intelligence of Albert Einstein to understand the power of compound
interest! This simple concept is taught in high school.

Here is an example :
Ÿ Imagine you invest ` 10,000 for 10 years. The rate of interest is 10% per year
Ÿ At the end of Year 1, you will earn ` 1,000/-. Thus your invested amount will grow to ` 11,000/-
Ÿ At the end of Year 2, you will earn ` 1,100/-... and so on.
Ÿ Finally, at the end of year 10, you will earn ` 2,358/- for that year, while the initial sum of ` 10,000 will
grow to around ` 25,940.

Basically it means that when you invest for long periods of time, you start earning interest on interest.
On the other hand, if you were earning simple interest, you would have only earned a flat sum of
` 1,000/- per year for 10 years and the total amount would have only grown to ` 20,000/-.

The difference of ` 5,940/- is because you have earned interest on interest.

In a nutshell, compound interest is the magic of earning interest on interest.

Amazing, isn’t it?

Here is an example of how compound interest can convert small savings
into large numbers :

Just imagine this: You are a young 20 year old 'branded' coffee lover.

Now, assume one day you opted to drink the neighbourhood Udipi
restaurant coffee, costing ` 25/- over the fancy one, costing ` 125/-

Further, you invested this difference of ` 100 at 15% per year for the next
40 years. Can you estimate how much this ` 100/- would grow to?

The answer is : ` 26,786!!

Now imagine you saved and invested ` 100/- everyday. Do you still
desire that fancy coffee?

There is a simple and sure formula to get rich.

Save & invest early and let the magic of compounding do the rest.

4
True investors are the real winners in the long term

Stock prices are influenced by innumerable factors, many of whom are unrelated to a company's
earnings. Often, these movements are random and difficult to forecast. However, over time, this
apparent randomness slowly fades away, and we can observe a sustained uptick in stock prices in
line with the underlying companies’ performance. That is why long-term investors emerge as true
winners, beating, both day-traders and the ever-present danger of inflation.

The graph below shows that if you had invested in stocks (as measured by the BSE Sensex) on
January 1, 1990 and stayed invested till January 31, 2019, you would have earned compounded
annual returns of 14.09% p.a., which means Rs. 10,000 invested on January 1, 1990, would have
compounded to Rs. 4,65,641 on January 31, 2019. The returns drop drastically if you missed the 10,
20, 30 and 40 best days.
Source: Value Research
16
14.09
14 (`4,65,641)
CAGR
12
9.72
10 (`1,49,281)
Returns (%)

7.35
8 (`78,828)
5.69
6 (`50,068)
4.40
(`35,073)
4

0
All days invested Missing best 10 days Missing best 20 days Missing best 30 days Missing best 40 days

Daily Returns from January 1, 1990 to Jan 31, 2019

A prudent investor is one who always remains invested for the long term and allows his money to
compound.

But how long is long-term ? While there is no concrete definition, we define it as a minimum
period of five years.

Equities can help you fulfil your long-term financial aspirations, provided you are willing to stay the
course and not sell in panic during market downturns. You could also choose to invest in equities
through equity mutual fund schemes via the Systematic Investment Plan (SIP) route. We also
suggest you consult your Financial Adviser before beginning.

Equity investors who are not terrified of short term fluctuations

can benefit from the power of compounding

5
Owning a business
vs owning Shares
in a business
- Warren Buffett

What are Shares/Stocks ?

A share/stock of a company represents a small stake in a company's underlying business. In the

past, many investors remained invested in a company for long periods aiming to participate in that
company's growth across business cycles and earn dividends along the way.

However, today the distinction between investors and traders is narrowing. Holding periods have
reduced to a matter of days rather than years. This has contributed to share prices becoming more
volatile. Other factors include:

Increased
Increased information
information flow,
flow, which
The advent of online trading which facilitates
facilitates quick
quick decisions. Growing importance of the
decisions.
and plummeting brokerage rates. financial media.

However, for long-term investors willing to hold on for several years, volatility is a blessing in disguise
as they can take advantage of sudden, unexplained plunges in stock prices to purchase stocks of
good companies at attractive valuations.

Investors may also opt to invest through equity mutual fund schemes which invest according to the
principles of value investing. The fund managers of many such schemes view their portfolio as a
collection of businesses and not just stocks.

Their portfolio will usually comprise of companies having all/a combination of the following
characteristics :

• Low debt burden • Strong franchises • Relatively low earnings volatility

• Run by competent managements who consider the interests of minority shareholders

6
Also, such schemes will have very low portfolio turnover ratios, as the fund manager will prefer to
hold on to the underlying companies as long as the business fundamentals are intact.
Many investors look up to Warren Buffett as a talisman. He is the emblem of everything an investor
ought to be. His observations on investing are, both, humourous and thought-provoking.

A few of his views on stocks and the stock market outline why he is such a favourite...

1. Forever is a good holding period.

2. Be greedy when others are fearful.
3. The more you trade, the more you underperform.
4.Rather than focus on the underlying business, we are all too often consumed with market
quotations.

He also asks a few common questions before investing :

1.Is the business easy to understand ?
2.Can it be purchased at a significant discount to its value ?
3.Is the management rational and candid with shareholders ?
4.Has the company created at least one dollar of market value for every dollar invested ?.

However, while his approach to investing is simple, it is not always easy to implement. For such
investors, investing through equity mutual fund schemes could be the next best option.

A few facts

1941: Buys first stock at age 11.

1956: Creates Buffett Associates Ltd. with $105,000. It was worth over
$105 Million when he dissolved in 1969.

1959: Introduced to Charlie Munger

1962: Discovers Berkshire Hathaway, a textile company, which will be

the conduit for his investments inti various other sectors.

2006: Berkshire stock crosses $1,00,000 per share

2018: Buffett and his company are still going strong.

If you find it difficult to implement Warren Buffett’s tenets, investing through

equity mutual fund schemes could be the next best option.

7
Why should we prepare a Financial Plan ?
1. It helps us to know where we stand currently
2. It helps us to determine our goal
3. It provides options on how to reach there.
4. It helps us know what is possible and what is not.

Why don't we plan ?

1. We get overwhelmed by the process
2. We fear that things will not go according to plan
3. Procrastination

The chief constituents of a Financial Plan are :

1. Cash Flow Management
2. Insurance
3. Asset Allocation
4. Estate Planning

Financial Planing
Plan Implementation

Course Corrections
Plan Preparation
Data Gathering
Goal Setting

Plan Review

8
Asset Allocation involves spreading your investments across various financial asset classes such as
fixed deposits, equities, real estate, gold etc.

Why this is desirable :

1. It helps to reduce risk of capital loss, as different assets usually perform differently at the same
point in time.
2. It prevents us from getting unduly worried or ecstatic.
3. It helps in bringing about balance in our financial life.

How do we go about it ?

1. Arrive at the optimum allocation

2. Re-balance periodically

The share of various assets will depend :

1. Our current financial situation

2. Our financial goals
3. Certain 'soft' factors like our attitude towards certain assets.

Performance of Asset Classes since 2009

0.53
2019 (YTD*) 5.03
0.06
7.23
Debt: Income 2018 8.17
Gold 5.28
S&P BSE Sensex Index 27.91
2017 4.66
4.96
6.69
2016 10.10
11.84
-5.03
-6.08
2015 7.04
29.89
-7.41
2014 12.89
8.98
-4.43
2013 5.20
25.70
2012 12.51
10.09
-24.64
2011 31.65
7.98
17.43
2010 23.34
4.61
* as on 31 Jan, 2019 Source: Value Research

9
 Specimen Asset Allocation Asset Allocation is only one part of the
10.70%
Financial Planning Process. It should be
done, keeping the other aspects in
Real Estate
Stocks mind.
Gold
42.50% Mutual funds provide a good way to
undertake asset allocation. A few
examples are :
46.70%

Type of Fund Underlying Asset

Debt Fund Debt instruments issued by Corporates and Governments
Equity Fund Indian as well as foreign equities
Gold Fund Gold
Real Estate Investment Trust Commercial Real Estate

All this can be undertaken at a reasonable cost, without, usually, sacrificing liquidity.

The Financial Planning and Asset Allocation process may appear to be easy, but it is not always
simple. Hence, outsource this function to a competent Financial Planner, if you lack confidence or
ability to do it yourself.

Asset Allocation is only one part of the Financial Planning Process. It should be done
keeping the other aspects in mind.

10
Have you ever come across this notice in a restaurant :
“The owner eats here...”

Does this not make you feel more assured, about the quality of
food ?

The same could be extended to money management.

There are two kinds of money managers :

1. The first kind manages your money for a fixed fee, without
investing along with you. In other words, he does not lose, even
if you lose.

2. The second kind strongly believes in the scheme that he is

managing, and hence invests his own money in it. Hence, he
usually wins only if you win. This is known as having 'Skin In The
Game'.

Don’t you feel more reassured while you are entrusting money to the second manager?

11
Having ‘Skin In The game’ results in:

1. Your fund manager behaving more prudently.

2. His financial interest being aligned with yours.
3. Him having less incentive to cut corners.
4. Him having more than merely reputation, at stake.

Before choosing a mutual fund, do not go merely by past performance statistics. Choose one
where the interests of the fund house are aligned with yours...

The Hammurabi Code

Around 18th Century BC lived a King named Hammurabi
who instituted a social law now known as the
Hammurabi's Code. It is the one of the first evidence of
law ever written down.

One of the principle features of the code was about the

builder - If a builder built a house for a man & the house
collapses to cause the death of the owner, then the
builder has to be put to death.

In a mutual fund's context, a Fund Manager is said to have

'Skin In The Game' if he / she owns units in the Scheme he
/ she is managing.

The greater the holding, the greater the implicit

commitment of the Manager. It demonstrates a
willingness to link their financial well-being with the
unitholders' well-being.

It also places an onus on them to make optimum use of

their time & abilities in order to enhance the scheme's
performance and avoid reckless behaviour.

Money management acquires a different dimension when one has

‘Skin In The Game'.

12
A good question...Unfortunately, there is no 'one' right answer.

One thumb rule which often works is :

‘'The best time to buy is when stock prices are falling sharply and you
least feel like buying'.

Most often, we ask this question because we are terrified of the unknown.
What if I purchase today and...
 oil prices or interest rates start rising?
 Europe slips back into recession?
 There is a war, etc...

Here is one statistic that may reassure you...The BSE Sensex was 100 on
April 1, 1979. It is around 26,000 currently. This amounts to an annualised
return of nearly 17% p.a.

During this period, most of what could possibly go wrong, did go

wrong, both on the local and global front. Yet, those who invested at that
time and held on, have multiplied their wealth by over 260 times. They
have also comprehensively beaten inflation. Those who tried to time the
market were often left frustrated...and poorer.

For those who worry about losses due to stock market fluctuations, here are two charts. From
these it is evident that the longer you stay invested, the lower the chance of losses and even if
you had invested on days when the Sensex was at its highest value, you would not have lost
money, had you held on.

3,00,00,000 Monthly SIPs made on the worst day of the BSE Sensex 30 `2,84,45,543
Monthly SIPs made on the best day of the BSE Sensex 30
2,50,00,000

Worth of `10,000 monthly SIP

2,00,00,000

1,50,00,000
`2,62,69,793
1,00,00,000

50,00,000

0
1991

2001

2011
1993

1995

2003

2005

2013

2015
1996

1998
1999

2006

2008
2009

2016

2018
2019
1992

2002

2012
1990

2000

2010
1994

2004

2014
1997

2007

2017

Source: Value Research

13
Sensex Returns

Summary since January 1990

1 yr 3 yr 5 yr 7 yr 10 yr 12 yr 15 yr
29 27 25 23 20 18 15
8 4 3 1 NIL NIL NIL
Loss Probability (%) 27.59 14.81 12.00 4.35 NIL NIL NIL
17.43 8.20 10.56 10.93 13.53 11.82 13.40
18.87 14.20 12.74 12.00 12.29 12.44 13.19
82.09 49.76 43.13 26.46 20.45 19.10 16.66
Minimum Return (%) -52.45 -12.29 -1.80 -2.61 2.59 8.02 7.31
32.91 16.86 11.94 7.72 5.39 3.33 2.37
Source: Value Research

Also, often, the risk of not being in the market is higher than the risk of being in it.

50,00,000
46,56,412
45,00,000
40,00,000
35,00,000
30,00,000
27,77,864
25,00,000
22,86,575
20,00,000
18,16,747
15,84,451
15,00,000
12,26,491
10,00,000
5,00,000
0
Missing 10 days Missing 8 days Missing 6 days Missing 4 days Missing 2 days Remaining
invested

Source: Value Research

14
 BSE Sensex

40,000
35,000
Coming of the NDA government
30,000
Recovery with
25,000 Exuberant bull phase with glitches
plenty of NFOs, IPOs
20,000 Prices at LME crashed,
Coming of the
Fed increased interestrates
15,000 NDA government
The big bull-Harshad Ketan Parekh scam Recovery with
Mehta scam divulg divulged & tech
10,000 boom oges bust Black glitches
Debt overhang
monday in Euro zone
5,000 Tech boom
U.S. sub-prime crisis emerg
0 Lehman Bros.
1991

2001

2011
1993

1995

2003

2005

2013

2015
1996

1998
1999

2006

2008
2009

2016

2018
2019
1992

2002

2012
1990

2000

2010
1994

2004

2014
1997

2007

2017
S&P BSE Sensex Index (1991 to 2019)
40,000

35,000

30,000 Financial crisis

(2008)
25,000

20,000

15,000
dot.com crash
10,000 (2000)

5,000

0
2000

2002

2004

2006

2008
1990

1992

1994

1996

1998

2010

2012

2014

2016

2018

2019

Source: Value Research

15
The bottomline :

There is enough evidence to prove that equities have beaten other asset classes over the long term. If
you find it difficult to invest in stock markets on your own, opt for a mutual fund and invest
through the Systematic Investment Plan (SIP) route.

Long term performance of asset classes

4,000 (Current value of `100 invested in FY 1990-91)
Nifty 50 Index Gold (1 gram) PPF

3,000

2,000

1,000

1991 1994 1997 2000 2003 2006 2009 2012 2015 2018
Source: Value Research

16
 Nominal vs Real Return...

Your bank is offering you a 5 year fixed deposit 8% interest per annum. Excited? First ask yourself : Is
this what I am 'actually' getting? No... you are not. This is because of inflation and taxation.

While the effects of taxation are easily discernible, the impact of inflation is more insidious.

The 8% p.a. offered by the bank is known as the 'Nominal Return'. The rate that you receive after
stripping out inflation is known as the 'Real' Return.

In this case, if the current rate of inflation is 7%, your real rate of return this year, is approximately 1%.

Nominal return (%) Inflation (%) Approx. Real Return (%)

8 7 1
8 8 0
8 9 -1

Inflation represents loss of purchasing power.

1979 1999 2019

If inflation is 7 % p.a., what you can buy for ` 100/- today, will cost ` 107/- one year from now.

17
 Nominal vs Real Return...

Investment options offering you minuscule or negative real returns, mean that your investments are
actually making you poorer. In fact, the longer you remain invested, the poorer you may become.
Time is the enemy of fixed income investors.

Historically, investment in equities has offered higher real returns compared to fixed deposits.
Hence, it seen as a good hedge against inflation.

Sensex Vs Gold Vs FD Vs Cost Inflation Index

Value of Rs. 100/- invested on 1st Apr 1980. (adjusted for inflation)

1800
1600
1400
1200
1000
800
600
400
200
0
1986

1996

2006

2016

2019
1988

1998

2008

2018
1982

1992

2002

2012
1980

1990

2000

2010
1984

1994

2004

2014

Sensex Gold Fixed Deposit Cost Inflation Index

When we invest in equities we are purchasing a small portion of the underlying business. As
consumers, we often complain that companies are constantly raising the prices of products
and services. By investing in those very businesses, we can benefit along with these
companies.

If you find it difficult to choose the right companies for investing, you could opt to invest through
mutual fund schemes, preferably through the Systematic Investment Plan (SIP) route.

Do not get swayed by nominal returns. It is the 'real' return that counts...

18
 Systematic Investment Plans

What is a SIP?
You could view it as a recurring deposit in a mutual fund scheme wherein you invest a fixed
amount periodically on any particular day (say, on the 10th of every month). This process could be
automated either by investing online or by issuing standing instructions to your bank, just as you
would in the case of your electricity / telephone bill. Yes... It really is this simple.

Why should you register a SIP? ...

You do not have to worry about the 'right time'.

The longer you invest through a SIP, the more you will be convinced that
the benefit of just remaining invested is more than eternally searching
for that one right moment to invest.

Befriend volatility
Yes... equities are volatile. However, the auto-debit feature of your SIP
means that you will keep investing during fearful times. Over time, you
will be happy that you were bold when the others were scared.
Continuously investing over a long period, helps you to actually take
advantage of market fluctuations.

SIP = DIP
By removing the emotional element from the investment process, the
SIP doubles up as a Disciplined Investing Plan. You could also call
this the Auto-Pilot mode of investing.

The power of compounding

You could begin with amounts as low as ` 1000/- per month. The
power of compounding will ensure that small contributions can grow
into large sums over time.

SIP: It is like an EMI you pay to yourself.

19
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