Investment universe has tons of financial products adding up every now and then. The focus is more on which product to choose rather than how/why to choose. Let us check five important terms in investment which you ought to understand before opting for an investment.
Inflation
The rate at which the general level of prices for goods and services is rising, and, subsequently, purchasing power is falling is known as Inflation.
This can be best explained by Dosanomics, as suggested by our beloved RBI Governor Mr. Raghuram Rajan. With high inflation and high interest rates, a pensioner who invests 100,000 rupees could buy the same number of dosas with the interest at the end of the year as he could at the start. But if inflation came down, even with a lower interest rate, the same pensioner could buy more dosas each year with the return on his investment. When inflation is 5.5% but the interest rate you are getting is 8%, you are earning a real rate of 2.5%, which means 2.5% more dosas.
It is also popularly known as the time value of money, which is the principle that a certain amount of money today has a different buying power (value) than the same currency amount of money in the future. The value of money at a future point of time would take account of interest earned or accrued over a given period of time.
CPI (Consumer Price Index)
Diversification is a very familiar financial terminology to most investors. In the most general sense, it can be summed up with this phrase: "Don't put all of your eggs in one basket.” Taking a closer look at the concept of diversification, the idea is to create a portfolio that includes multiple investments in order to reduce risk. It has been proven time and again that there is nothing called best investment product in this universe. It’s all about what suits you the best. Hence, it is advisable to diversify your investments to minimize the risks involved in other products. It is a powerful concept that needs to be implemented in every portfolio.
Asset Allocation
Asset allocation refers to investing across various assets in varying degrees that will play a vital role over the long run. Allocating percentages for different assets in a portfolio looks quite easy on the outer side but it is not so in reality. A financial expert would look into the risk appetite, investment tenure and many such factors before doing the task of asset allocation. By analysing the said factors, the expert can comprehend whether the portfolio needs to be conservative, moderate or aggressive. This helps the expert choose products from specific categories such as Mutual Funds, Fixed Deposits and so on, which fit the portfolio.
Risk Return Trade-Off
Risk is an inherent concept in any financial product. It could be default risk, credit risk, interest rate risk or volatility in returns. However, investors may choose to take any of the above risks based on their risk appetite. Risk taken should match the return received from the product. There is a common myth that high risk would result in high returns. The fact is that high risk may not just guarantee high returns but may also lead to greater loss too. This needs to be understood by every investor before making any investment.
Information Courtesy : Karvy Value Blogs
Inflation
The rate at which the general level of prices for goods and services is rising, and, subsequently, purchasing power is falling is known as Inflation.
This can be best explained by Dosanomics, as suggested by our beloved RBI Governor Mr. Raghuram Rajan. With high inflation and high interest rates, a pensioner who invests 100,000 rupees could buy the same number of dosas with the interest at the end of the year as he could at the start. But if inflation came down, even with a lower interest rate, the same pensioner could buy more dosas each year with the return on his investment. When inflation is 5.5% but the interest rate you are getting is 8%, you are earning a real rate of 2.5%, which means 2.5% more dosas.
It is also popularly known as the time value of money, which is the principle that a certain amount of money today has a different buying power (value) than the same currency amount of money in the future. The value of money at a future point of time would take account of interest earned or accrued over a given period of time.
CPI (Consumer Price Index)
- A measure that examines the weighted average of prices of a basket of consumer goods & services, such as transportation, food & medical care.
- CPI is calculated by taking price changes for each item in the predetermined basket of goods and averaging them; the goods are weighted according to their importance.
- The annual percentage change in a CPI is used as a measure of inflation.
- An index that measures and tracks the changes in price of goods in the stages before the retail level.
- Some countries use WPI changes as a central measure of inflation.
Diversification is a very familiar financial terminology to most investors. In the most general sense, it can be summed up with this phrase: "Don't put all of your eggs in one basket.” Taking a closer look at the concept of diversification, the idea is to create a portfolio that includes multiple investments in order to reduce risk. It has been proven time and again that there is nothing called best investment product in this universe. It’s all about what suits you the best. Hence, it is advisable to diversify your investments to minimize the risks involved in other products. It is a powerful concept that needs to be implemented in every portfolio.
Asset Allocation
Asset allocation refers to investing across various assets in varying degrees that will play a vital role over the long run. Allocating percentages for different assets in a portfolio looks quite easy on the outer side but it is not so in reality. A financial expert would look into the risk appetite, investment tenure and many such factors before doing the task of asset allocation. By analysing the said factors, the expert can comprehend whether the portfolio needs to be conservative, moderate or aggressive. This helps the expert choose products from specific categories such as Mutual Funds, Fixed Deposits and so on, which fit the portfolio.
Risk Return Trade-Off
Risk is an inherent concept in any financial product. It could be default risk, credit risk, interest rate risk or volatility in returns. However, investors may choose to take any of the above risks based on their risk appetite. Risk taken should match the return received from the product. There is a common myth that high risk would result in high returns. The fact is that high risk may not just guarantee high returns but may also lead to greater loss too. This needs to be understood by every investor before making any investment.
Information Courtesy : Karvy Value Blogs
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