we discovered how investing in equities helps preserve and enhance wealth considerably, compared to FDs/bonds or any other investments. We explored the vital question of ?Why? invest in equities, and now we will endeavour to answer the ?When? and ?How much? questions. We will also delve into ?debt? to understand how it could upset the best of equity investment plans.

A farmer in remote Bihar borrows heavily from his zamindar to pay the dowry for marrying off his 11-year-old daughter (an extreme form of debt that we know will turn the farmer into a bonded labourer forever).

A newly married yuppie buys a car, TV, fridge on his credit card?(another form of debt that the yuppie hopes to repay with his zooming salaries).

In these instances we see that ?debt? has been incurred to spend beyond one?s current means. We learnt last time that typically whatever we earn either goes into buying food, clothes, or assets like a TV, car, etc. Or we save with the intention to use our savings during our retirement or buy a house, etc. In other words, we spend our earnings today or save it to spend it later. ?Debt? brings in a third element?while we postpone consumption when we save, we spend future savings when we borrow! In simpler terms, ?savings? and ?debt? are like day & night?they can never exist together unless it is twilight. Take the case of Nagesh, who we met up with last time. Nagesh is a very practical person who has learnt from the tough times in his life. Nagesh, just like any other human being, has dreams of buying a car, a big house for his family, but realises that he will only be able to get there in stages as his current earning capacity is too limited. He has been keeping his desires in check while continuing to save regularly and investing a part of it in shares of good companies. Nagesh bought a car last month by selling part of his holding in Zee Telefilms (about 100 shares @ Rs3500 that he had bought over a year back @ Rs100).

Manish has been Nagesh?s colleague for the last four years. Manish believes in living life king size. In his very first year he exceeded the credit limit on his credit card. He has been paying through his nose, shelling out interest at 3% per month on his credit card outstandings. Two years back, he availed of a car loan to buy a Maruti 800, at a monthly installment of Rs8000 when his post-tax salary was just Rs14,000! Last year, envious of Nagesh?s newfound wealth in shares, he decided to dabble in shares too. His broker recommended Blue Information Technologies Ltd. as a hot tip that would double in 3 months? time! Full of fervour, without even checking the background of the firm, Nagesh pledged his wife?s gold and borrowed to buy this stock at Rs150. A week later, he discovered that the stock had fallen 35% from his purchase price. When he called up his broker, he was aghast to find out that the stock had been suspended. His interest meter was ticking on the money he had borrowed while his principal was down the tube. Talk of the power of compounding!

Moral: Never stretch borrowings to invest in the stock market. Shares are long-term investments that cannot be matched with short-term borrowings. Ideally, one should repay all borrowings and then invest the surplus in equities. So, when we are debt free, we are ready to invest in equities! By the way, one is never too old or young to invest as long as one understands the investment one makes.

OK, we have understood that in the long run equities offer the highest returns. We have also learnt that one can invest in equities any time provided one has surpluses after repaying debt and meeting one?s expenditure! But how much do we invest?

How much depends on two criteria. One, the risk profile of the investor and two, the liquidity requirements of the investor! Now that we know Nagesh, his father and friend Manish well, let us understand this better through their actions.

Risk profile! Yes, let?s face it. No equity investments are free of risk. There is no such thing as a free lunch, mind you! There are a whole basket of risks to contend with and we will understand all of them very soon. For now, we need to appreciate that there are risks of losing. Looking at our three personalities, we can straight away rule out Manish. He can?t afford to take any risks as he is buried deep in debt and can?t afford to lose a penny! Nagesh on the other hand is just 35 years old and has a long bright career ahead of him, so he can afford to take greater exposure in equities and in slightly risky shares too (for instance, some stocks from our ?Emerging Star?, ?Ugly Duckling? and ?Vulture?s Pick? categories). Nagesh?s father, on the other hand, has retired and has no source of income other than the savings he has amassed. So he will be able to afford very little risk. Hence, he should be looking at stocks in our ?Evergreen? or ?Apple Green? categories to choose his investments (which is why, if you remember, Nagesh had suggested HLL to his father).

Let us now move on to liquidity. Liquidity requirements signify the need of cash to meet one?s payment obligations (and don?t have anything to do with human beings? fluid intake). Manish needs all the money he can get as he has to meet so many of his loan obligations. Nagesh on the other hand has an idea of his monthly expenses so he has a better fix on his monthly cash requirements. He also needs to maintain a certain amount of cash in liquid savings (savings bank deposit, etc.) just in case there are some unforeseen medical expenses to meet or an unplanned visit to his father?s place. Beyond these requirements, he can look at investing in equities. Nagesh?s father, on the other hand, has to meet his entire expenses from his savings and would have large requirements for immediate cash. Hence, he can allocate a smaller portion of his savings to invest in equities.

Judging the actions of the small world of people we know, we have realised that risk profiles vary with age, current financial position, even one?s own personality. Liquidity requirements too depend on similar factors. These two criteria will be different for different people, but one should not lose sight of one?s risk profile and liquidity requirement while investing in equities.
Next time around, we will try to understand what we buy when we buy equities!