The Need to Invest – Varsity by Zerodha

Content

Before we address the above question, let us understand what would happen if one chooses not to invest. Assume you earn Rs.50,000/- per month, and you spend Rs.30,000/-towards your day-to-day living; this can include expenses like housing, food, transport, shopping, medical, etc. The balance of Rs.20,000/- is your monthly surplus.

Ch 1 Need to Invest

For the sake of simplicity, let us ignore the tax effect in this discussion.

To drive the point across, let us make a few simple assumptions –

    1. The employer is kind enough to give you a 10% salary hike every year.
    2. The cost of living is likely to go up by 8% yearly.
    3. You are 30 years old and plan to retire at 50, this translates to 20 working years.
    4. You don’t intend to work after you retire.
    5. Your expenses are fixed, and you don’t foresee any other expenses.
    6.  The balance cash of Rs.20,000/- per month is retained as hard cash.

Going by these assumptions, here is what the cash balance will look like in 20 years.

Years

Yearly Income

Yearly Expense

Cash Retained

1

600,000

360,000

240,000

2

6,60,000

3,88,800

2,71,200

3

7,26,000

4,19,904

3,06,096

4

7,98,600

4,53,496

3,45,104

5

8,78,460

4,89,776

3,88,684

6

9,66,306

5,28,958

4,37,348

7

10,62,937

5,71,275

4,91,662

8

11,69,230

6,16,977

5,52,254

9

12,86,153

6,66,335

6,19,818

10

14,14,769

7,19,642

6,95,127

11

15,56,245

7,77,213

7,79,032

12

17,11,870

8,39,390

8,72,480

13

18,83,057

9,06,541

9,76,516

14

20,71,363

9,79,065

10,92,298

15

22,78,499

10,57,390

12,21,109

16

25,06,349

11,41,981

13,64,368

17

27,56,984

12,33,339

15,23,644

18

30,32,682

13,32,006

17,00,676

19

33,35,950

14,38,567

18,97,383

20

36,69,545

15,53,652

21,15,893

Total Income

17,890,693

If one were to analyze these numbers, one would soon realize this is a scary situation. A few things are quite obvious –

    1. After 20 years of hard work, you have accumulated Rs.1.7Crs.
    2. Since your expenses are fixed, your lifestyle has not changed over the years, and you probably even suppressed your lifelong aspirations – a better home, car, vacations, etc.
    3. After you retire, assuming the expenses will continue to grow at 8%, the retirement corpus of Rs.1.7Crs is good enough to sail you through roughly 8 years of post-retirement life. 8th year onwards, you will be in a tight spot with literally no savings left to back you up.

What would you do after you run out of money in 8 years? How do you fund your life? Is there a way to ensure that you collect a more considerable sum at the end of 20 years?

At this point, you may think that the assumptions are simple and that real life does not work like this. I agree, and I won’t dispute that fact. However, the point to note in the above calculation is that no investments are made, hence the cash retained has a flat or zero growth.

Let’s consider another scenario where instead of keeping the cash idle, you choose to invest the cash in an investment option that grows at, let’s say, 12% per annum. For example – in the first year, you retained Rs.240,000/- which, when invested at 12% per annum for 20 years (19 years assuming you invest at the end of 1st year), yields Rs.2,067,063/- at the end of the 20th year. For those interested in math, here is how that works –

= 240000*(1+12%)^(19)

= 2067063

Dont worry about the math at this point. We will explain that later in this module (and several other modules in Varsity). Here is how the table looks if you choose to invest.

Years

Yearly Income

Yearly Expense

Cash Retained

Retained Cash Invested @12%

1

600,000

360,000

240,000

20,67,063

2

6,60,000

3,88,800

2,71,200

20,85,519

3

7,26,000

4,19,904

3,06,096

21,01,668

4

7,98,600

4,53,496

3,45,104

21,15,621

5

8,78,460

4,89,776

3,88,684

21,27,487

6

9,66,306

5,28,958

4,37,348

21,37,368

7

10,62,937

5,71,275

4,91,662

21,45,363

8

11,69,230

6,16,977

5,52,254

21,51,566

9

12,86,153

6,66,335

Summary
The article discusses the importance of investing surplus income to secure financial stability, especially post-retirement. It presents a scenario where an individual earns Rs. 50,000 monthly, spends Rs. 30,000, and retains Rs. 20,000 as cash. Over 20 years, without investing, this cash accumulates to Rs. 1.7 Crores, which is insufficient for a comfortable retirement, lasting only about 8 years given inflation. In contrast, if the surplus is invested at a 12% annual return, the total cash after 20 years rises to Rs. 4.26 Crores, significantly enhancing financial security. The article emphasizes three key reasons to invest: combating inflation, wealth creation, and improving quality of life. It also highlights the necessity of choosing the right asset class based on individual risk tolerance, mentioning options like fixed income instruments, equity, real estate, and commodities. Ultimately, the article advocates for proactive investment strategies to ensure a financially secure future.