Vikas Patni has not invested in stocks since he racked up huge losses in the derivatives segment in 2008. “I lost Rs 12 lakh in just two days as my broker squared off the positions,” says the Delhi-based self-employed professional. Patni had ventured into the stock market after seeing his cousin make astounding gains. He took the plunge in 2007.
Every stock he purchased gave good gains, which boosted Patni’s confidence and risk appetite. But the multi-year bull run was coming to an end and Patni’s next move was disastrous. Egged by his cousin, he started dabbling in derivatives, unmindful of the high risk the segment entails.
In 2008, when the markets crashed, he lost much more than what he had earned in the previous six months. The impact of the loss was enough to make him swear off the markets for good.
Vikas Patni, 34, Self-employed, Delhi
Took a cousin’s advice and put money in stock derivatives to earn high returns.
Outcome: Incurred a loss of Rs 12 lakh in two days
Lesson learnt: Retail investors should not venture into the F&O market. If trading, following stop loss is a must.
Like Patni’s cousin, most people are happy to dish out advice, whether useful or not. While you usually know to take such wisdom with a pinch of salt, sometimes it’s too tempting to resist taking advice from people who swear it has paid off for them. This is especially common in the case of financial advice from friends and relatives. Whether it’s a friend recommending a winning stock or an older relative telling you that real estate and gold never fail.
Several studies in the field of behavioural finance show that peers can influence our stock market participation and asset-buying decisions. “Money matters are very personal, hence people tend to rely on close friends or relatives for advice regarding saving and investments,” says Dhaval Kapadia, Director, Portfolio Strategist, Morningstar Investment Adviser India.
Rahul Jain, Head of Retail Advisory, Edelweiss Wealth Management
“What matters to investors is whether they can get good returns on their investments. If this is confirmed by friends, there’s no stopping them.”
However, free advice, in general, can do more harm than good. Not only are your friends unaware of your exact financial situation, they are also unqualified to offer you advice. “Often, the advice given by friends or relatives is based on their personal experience. So it may be very subjective and unsuitable for your situation,” says Abhishake Mathur, Head, Investment Advisory, ICICI Securities.
Many of us are tempted by the success stories of friends and relatives to jump on the bandwagon, only to be disappointed later. It’s important to remember that investment products as such are not good or bad. It all depends on your personal and financial situation.
One size does not fit all. “Just as a diet that suits one person may not suit another, an investment plan that works for someone else may not work for you,” says Lakshmi Iyer, Chief Investment Officer (Debt) & Head Products, Kotak Mutual Fund.
UNCALCULATED RISKS
Another factor is that your friend or relative doesn’t assess your risk profile (capacity and tolerance) before suggesting an investment product. “Their advice is based on only one parameter—returns. This makes the product choice completely wrong,” says Suresh Sadagopan, Founder, Ladder7 Financial Advisories.
Risk versus reward is the fundamental consideration for choosing an investment product. Without assessing your risk profile, it is nearly impossible to select the right products for meeting your goals.
Further, your friends don’t usually take your time horizon into consideration or link your investments to your financial goals when offering advice. A financial decision is not an isolated one.
For instance, buying a home on loan affects your monthly surplus, net worth, and taxation. “It is very unlikely that the informal source of advice is able to comprehend and analyse the impact of such decisions,” says Nitin Vyakaranam, CEO and Founder, ArthaYantra.
TAKING GLIB ADVICE
Often, informal advice is dispensed in a glib conversation between peers, without going into the details. This is exactly what Bengaluru-based Vipul Jain, a 23-year old software engineer, was faced with. When Jain wanted to invest for saving taxes, he quickly discussed it with his colleagues and invested a lump sum of Rs 1.5 lakh in the Public Provident Fund (PPF). “There was a rush to invest to save taxes. So, I did what my colleagues did,” says Jain.
Vipul Jain, 23, Software Engineer, Bengaluru
Went by a colleague’s advice and invested a large sum in PPF to save tax.
Outcome: Ended up a low-yield instrument that is not suitable for his age and financial profile.
Lesson learnt: ELSS funds that invest in stocks would have worked best for him than the PPF.
For tax-saving investments too, your age, risk-taking capacity, and investment horizon need to be considered. When you are young, it’s wise to invest more in equity-oriented assets such as ELSS and not in debt instruments like PPF, which yield less than 8% returns. “Young earners like Jain should get a term insurance cover first, which would also help save taxes,” says Dinesh Rohira, Founder & CEO, 5nance.com.
Amol Joshi, Founder, Planrupee Investment Services
“Advice from informal sources could severely impact your finances. Usually, the one giving advice is not an expert and doesn’t understand the risks involved.”
HAVING BLIND FAITH
Insurance-cum-investment plans are another product that people usually buy through their social circle. “Close to 90% of clients buy insurance on the advice of friends and relatives who are also insurance agents,” says Vyakaranam. Ashmeet Narula, a Noida based homeopathic doctor, is one such victim.
In 2008, a distant relative sold her a Ulip and promised her high returns within three years. She paid the premium of Rs 50,000 a year only for the first three years. Eventually, the policy lapsed and all the charges were deducted from the fund value created.
Narula ended up incurring a loss of Rs 53,000. “I blindly followed my relative’s advice. Had I known the framework of Ulips, I would have continued with the plan to reap long-term benefits,” admits 38-year old Narula.
Ashmeet Narula, 38, Homeopathic Doctor, Noida
Took the advice of a distant relative and invested in Ulips for three years to get high returns.
Outcome: She incurred a loss of Rs 53,000 within a three year period.
Lesson learnt: Ulips are not short term instruments. Hold for at least 8-10 years to cover initial charges.
While it might not be possible to avoid asking for financial advice from your friends and relatives altogether, it’s your responsibility to keep track of your own investments. Kapil Kamboj, a 30-year old business contractor based in Delhi let his friend invest a lump sum of Rs 50,000 in a mutual fund on a quarterly basis on his behalf.
He failed to follow up on the investment, and ended up making losses. “Neither did I read about the fund, nor keep track of it. I lost Rs 40,000 in just over one year,” says Kamboj.
Kapil Kamboj, 30, Self-employed, Delhi
Let his friend invest in equity MFs on his behalf for high returns in the short run, and didn’t follow up.
Outcome: Incurred a loss of Rs 40,000 in one and a half years.
Lesson learnt: Not to trust an informal source with money, and to keep a constant tab on his fund portfolio.
It’s crucial to gauge the suitability of an investment by asking the right questions. The next time you receive financial advice, make sure it works for you.
