article 95

15 financial problems at a glance! 15 financial problems at a glance!
When it comes to psychology and financial behaviour, India does not have too much of research papers. Hence we are forced to turn to the US or UK for such research work.
US studies have summarised financial problems and have found the following to be the most common of financial problems:
~ Not planning: The single biggest problem for most people is that they just do not plan their finances. It just keeps coming and going. Even if they are not happy about the results of what they have done so far, they do not change the way things are done.
~ Overspending: Many people with not very high incomes have very high ambitions. This is likely to get them to grief. Most of this problem is because the salesmen in most shops do not tell you the price of a product, they only tell you the EMI -- so anything from a plasma TV to a luxury home on the outskirts of the city are made to look cheap! After all at Rs 2,899 a month does a plasma TV not look cheap?
~ Not talking finance at home: Children are kept away from the finance topics at the dining table. Finance is perhaps the second most taboo topic at home! So many children grow up without knowing how much of sacrifice their parents have gone through to educate them.
~ Parents spending on education and marriage: There are just too many kids out there who believe that they need to worry about savings, investment and life insurance only at the age of 32 plus. This means your father, father?in-law or a bank loan has funded your education and marriage. Kids should take on financial responsibility at a much younger age than what is happening currently.
~ Marriage between financially incompatible people: Most marriages under stress are actually under financial stress. Either the husband or the wife is from a rich background and the other partner cannot understand or cope with the spending pattern. It is necessary to match people financially before marriage.
~ Delaying saving for retirement: "I am only 27 years old why should I think of retirement" seems to be a very valid refrain for many 32 year olds! Every year that you delay in investing the greater the amount that you will have to save later in your life. Till the age of 32 it might be feasible for you to catch up, but after some time the amount that you need to save for retirement just flies away.
~ Very little life insurance: With all the risks of life styles, travel, etc. illness and premature death are common. We all have classmates who had heart attack at the age of 32 but still pretend that we do not need life or medical insurance. We buy car insurance because it is forced upon us, but we ignore life insurance! Imagine insuring a Rs 10 lakhs car, but not insuring (or under insuring) the person who is using the car -- and paying for it, that is, you!
~ Not prepared for medical emergencies: Normally big emergencies -- financially speaking -- are medical emergencies. Being unprepared for them -- by not having an emergency fund is quite common. Emergency fund has now come to mean the credit card -- which is good news for the bank, not for the borrower.
~ Lack of asset allocation: Risk is not a new concept. However, it is a difficult concept to understand. For example when the Sensex was 3k there was much less risk in the equity markets than there is today. However at 3k index people were afraid of the market. Now everybody and his aunt wants to be in the equity market -- and there are enough advisors who keep saying, "Equity returns are superior to debt returns." This is true with a rider -- in the long run. It is convenient for the relationship manager to forget the rider. So there could be a much larger allocation to equity at higher prices -- to make for the time missed out earlier.
~ Falling prey to financial pitches: The quality of pitches has improved! Aggressive young kids are recruited by brokerage houses, banks, mutual funds, life insurance companies, etc. and all these kids are selling mutual funds, life insurance, portfolio management schemes, structured products, et al. Selling to their kith and kin helps these kids keep their jobs, and there is happiness all around! These kids, themselves prey to financial pitches, have now made it an art when they are selling to their own natural 'circle of friends' and relatives.
~ Buying financial products from 'obligated persons': This is perhaps one of the worst things you can do in your financial life. A friend, relative, neighbor, colleague who has been doing something else suddenly becomes a financial guru because they have become an agent! They, in great enthusiasm, sell you a financial product and promptly in 2 years time give up this 'business' because it is too difficult. You are saddled with a dud product for life! What a pity. Charity begins at home, not financial planning.
~ Financial illiteracy: Most people do not wish to know or learn about financial products. They simply ask, "Where do I have to sign" -- so buying a mutual fund is easier than buying life insurance! Selecting products based on the ease and simplicity of buying is a shocking but true real life experience in the financial behaviour of the rational human being!
~ Ignoring small numbers for too long: What difference will it make if I save Rs 1,000 a month? Well over a long period it could make you a millionaire! So start early and invest wisely. It will make you rich. That is the power of compounding.
~ Urgent vs important: Most expenses, which look urgent, are perhaps not so important -- the shirt or shoe at a sale. That luxury item which was being offered at 30 per cent discount is such an example. These small leakages are all reducing the amount of money you will have for the bigger things like education or retirement.
~ Focusing too much on money: Money is no longer a commodity to buy things. It is a scorecard of one's life. That will cause stress, and yoga might help. However if you will seek a branded yoga teacher -- so that your friends think you have arrived, yoga it self could cause financial stress!
123 will de-nuke; this will nuke
S GURUMURTHY
IN the tumult over the farm loan waiver, a dangerous move in Finance Minister’s budget oration — that has the potential to nuke the Indian financial market — has gone totally unnoticed. It’s a month after the budget. Still there is not a word in the media about this dirty nuke. So ignorant those who count seem to be that the peril may be celebrated as a towering financial sector reform! The paradox is this: the subject drives away those who are not concerned with it; but the concerned are the ones who are getting the dirty bombs to target Indian economy!
Is it that serious? Yes, it is. Read on, but seriously. In para 97 of his speech the finance minister says, “I propose to take measures to develop the bond, currency and derivative markets that will include launching an exchangetraded currency and interest rate futures and developing a transparent derivative market with appropriate safeguards.” Shorn off all ornaments, the minister intends to allow trade in ‘currency and interest futures’ and ‘derivatives’.
For easier understanding here it is better to use one complex word — the ‘derivative’ —which includes futures, options, forwards and so on. Even one among the millions who listened to the minister would not know what are the new beasts, the derivatives, that would soon populate the Indian financial market, if the minister is not stopped. Why, even ‘experts’ have no great idea about derivatives. An expert global website on finance says that ‘politicians, senior executives, regulators, even portfolio managers have limited knowledge’ about derivatives. If this were so in the US, the birth place of derivatives, one can imagine the level of enlightenment here. A brief journey into the exotic world of derivatives is necessary at this stage. This will help drive home what the finance minister is proposing to get the country into.
Derivatives are the most dangerous instruments in global finance which is today more virtual than real. It is almost a drama in real life, a theatre. Derivatives are shadow financial instruments. As the story unfolds, the shadow has not only replaced the actual, but, has grown several times the actual. This is how the derivative works as compared to the actual. If one buys or sells stocks of Tata Motors, it is actual trade. But if one buys the option to buy or not to buy Tata Motors stocks, then it is a derivative trade. But the seller of the option to the buyer need not own the Tata Motors stocks and the buyer need not have full money. Is it anything other than wager? This transaction is linked to asset values. Derivatives need not be linked to asset values only. It may be linked to loans, like that a bank may turn into a single rated security its multiple loan transactions and sell the rated Asset Backed Security (ABS} in the market. This is a credit derivative. Likewise, betting whether stock prices or stock market indexes will go up or come down or whether interest rates will go up or come down or whether the rainfall will be normal or above or below are all integral to derivative trade.
To understand this new animal called derivative that has all, but, crippled the global economy, take the credit derivative. The sub-prime housing loan crisis in the US has shaken the world. For the benefit of those who entered the debate late here is some basic info. Sub-prime loan means loan given at less than prime interest rates. Normally creditworthy borrowers would get loans at less interest. In US, however, from around the year 2000, even those who would not deserve loans at more than normal rates, were given housing loans at sub-prime rates. Households were given loans without income check, without margin money for the loan. This led to huge home demands and that pushed up the value of the existing houses. Those whose home values went up were given loans on the appreciation. This was to make Americans to go the shopping malls and buy up cars, jewellery, and other luxuries. These loans were given by design, not by mistake, to revive the American economy that was falling into depression in 2000- 2001 as a result of the dot.com collapse and the terror attack on the US. The US Federal Reserve cut the lending rates to one per cent to facilitate sub-prime borrowing. The sub-prime loans by local banks were later bundled into large bonds of millions of dollars —some times even billions — as ABS, which is a credit derivative. Rated by rating agencies ABS were sold in global market. A more sophisticated form of ABS is known as Collateralised Debt Obligations (CDOs). Like ABS, CDOs are also credit derivatives. Thus the local loans of US were turned into global loans. Result? When sub-prime borrowers in US failed to pay up, the European, Middle Eastern and Asian banks which had bought the CDOs lost the money. So it became American loan mela at global cost! The European Central Bank had to lend something like $560 billions to banks in Europe to save them from insolvency. This is one example of derivatives and also what it can do.
The total of all derivative positions of banks as measured by the Bank of International Settlements (BIS) as of December 2007 is — believe it — $516 trillions or as converted into rupees 20,640 lakh crores! The derivative beasts have grown from $100 trillion in 2002 by five times in five years. This is the shadow or virtual economy, or the mirage. The actual economy is lilliputian as compared to the shadow. The shadow economy is worth more than ten times the actual global GDP ($50 trillion); some seven times the world’s actual real estate ($75 trillions); more than five times the world’s actual stock ($100 trillions). It is not the actual that controls the virtual economy. It is the other way round —the virtual, or the speculative economy controls, even overawes, the actual.
Worse, derivatives are off balance sheet businesses of banks. Result, the true liabilities of bank in which a depositor puts in his hard earned savings, or the true position of a corporate in which corporate in whose shares someone invests money, are not known at all.
Warren Buffet, the most celebrated US investor, said recently that derivatives are financial Weapons of Mass Destruction (WMD)! The man is no socialist. He is a free market capitalist. And identified as the richest man on this plant less than a month ago. He is a huge player in global finance that is dominated by derivatives and yet keeps away from derivatives. No one, including Chidambaram, can claim to know more about these derivative beasts better than Warren Buffet. Again, these beasts are not just financial WMDs. They are equally financial ICBMs which can hit from one continent at another just as the local subprime loans of US transformed into CDOs and nearly bankrupted many banks in far away continents.
Chidambaram welcomes these financial WMDs and ICBMs into Indian financial market with red carpet. The pink media will vouch this disastrous move as financial sector reform, liberalisation and globalisation! But the truth is: India is about to embrace the beast that Warren Buffet is terrified about. Yet, the whole nation is in the dark about this financial dirty bomb. QED: The 123 agreement will de-nuke India. The derivatives will nuke India’s economy. And that completes the square. Is a Karat or a Jaswant listening?
source: The New Indian Express****Mcj – internal exams: September 2007
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