Knowledge is a big differentiator in your wealth creation process. You must make that your strength or you will be unable to change your finances significantly.
In an era of information overload, you must learn to use filters. In the book titled ‘The Design of Business’ by Canadian management guru Roger Martin, there is a concept of design thinking. While the concept of the knowledge funnel is primarily used by businesses to innovate and create new products and services to solve market problems, you can use it to make informed investment decisions.
Making sense of information
The first stage in the innovation funnel is about mystery. You are overwhelmed by too much information around you. It is not easy to make sense of the data. For example, you may want to know the impact of inflation on your money. You want to understand the efforts taken to arrest the rise in inflation. You must rely on a lot of numbers. The mystery in all the information overload is the interconnectivity of those numbers. High inflation leads to high-interest rates. That makes borrowing expensive for businesses and individuals. It increases the cost of operation for businesses, and a rising interest rate scenario is not considered a suitable time for business expansion.
As an individual, you will not incur a significant expenditure if inflation squeezes your finances.
On the other hand, some businesses make money when inflation rises. They can pass on rising costs to customers and profit. Share prices of such companies do well. As a consumer, you are hit by inflation. However, if you are an investor in the stock market, you can still benefit from the growth in profits of companies that manage their finances well during high inflation. All the above is mysterious for someone unfamiliar with the world of finance.
Thumb rules
The next stage of the innovation funnel is heuristic. It means adopting thumb rules that work to solve a problem. While investing, you must look at established thumb rules that can show you the way through the finance mystery.
If you are new to the world of investments, you must start saving money regularly. Once you have a surplus every month, you need to give a direction to that money. The concept of asset allocation matters a lot. You cannot put all your eggs in one basket for any reason. You must make an appropriate asset allocation based on your risk appetite. A thumb rule for those starting is to subtract their age from 100, and you get the money that should go to equities. Your ability to withstand risk is higher when you are younger than when you are older. As you age, you automatically reduce your exposure to equity assets by that thumb rule. The balance can go into a fixed deposit, gold or any other fixed-income asset class.
Action plan
After understanding the mystery and heuristic, you reach a stage of the algorithm. While investing, it is not enough to seize one right moment. You need to find a way to do so all the time. You need to stay invested in the stock market for as long as possible. Not just that, you need to invest regularly, too.
That way, you can ride through market cycles and buy more equity assets at low prices. Accumulating wealth at the end of your life depends on your ability to execute that action plan.
You can own shares of fundamentally strong like legendary American investor Warren Buffett for a long time. You can do that directly or indirectly through exchange-traded funds or mutual funds.
Many tools are at your disposal today that can help you identify the right companies or funds. Systematic investment plans are one such solution that works like a repetitive mechanism. Some fintech companies allow you to own a basket of stocks based on your interest and risk appetite.
You can use these effectively throughout your investment life and create wealth.
Rajas Kelkar
(The author is editor-in-chief at www.moneyminute.in)