One of the key lessons from the various collapses of finance and leasing companies across Sri Lanka was the lack of financial literacy displayed by extremely smart people. In their pursuit of extra returns, few showed any understanding of the basic relationship between risk and return.
Basically, any investment that promises a return above a government bond or a bank deposit carries the possibility of a complete loss of the invested capital. No matter how good a yarn anyone attempts to spin, the above is one of only two truisms in investing. The other incidentally is that diversifying your investments across a range of asset classes is the best defence against a completely unknown future.
It's fair to say that most people universally are financially illiterate.
Sri Lankans are no different. This is part failure of education policy and part explained by our unease in discussing money. Society has made money a taboo subject, and any discussions associated with it are accompanied in some extreme cases of physiological discomfort. This discomfort has had a damaging effect on generations of adults who have made some very questionable investment decisions. It is time to change course and begin by arming the next generation with some sound advice on money matters.
Our views about money are formed at early childhood, and these experiences colour how we view money well in to adult life. Parents have the single greatest influence over what money habits kids take into adulthood. These influences are more complex than to simply say a kid brought up in a house of spendthrifts will grow up to be that. There are more subtle subconscious memories that drive our feelings about money.
Given these psychological underpinnings and the extreme complexity of the finance world, it is difficult even for those of us who have made a career in the field to fully keep up with all its developments. Just as you don't serve as your own doctor or lawyer, there is limited chance for you to successfully serve yourself as a financial expert. The best outcome for investors and their families is to start by understanding some concepts which may have a direct bearing on their financial well being.
Always read the small print on any documents provided with a financial product. Financial services firms employ armies of lawyers and advertising firms to come up with creative jargon, which on reflection benefits them over investors. Be aware of all the various fees charged by your service providers, and shop annually to ensure you are getting the best value.
Save a component of your final take home pay, irrespective of the amount, unless you are in debt. Compound interest, the single greatest force in investment is always on the side of regular savers. If it helps, divert your savings to a completely separate account held away from your daily transaction account, in order to avoid any temptations to spend.
Pay off any accumulated loans, before you begin to save. Investors fall in to a classic trap by saving money when they have outstanding debt, often at a much higher interest rate than on offer on their savings accounts.
Air, water, food and shelter are essential for life; credit cards are not. Use them sparingly if you need to at all, and always make sure to pay them in full when they are due. If you have compulsive shopping tendencies, switch to a debit card attached to your bank account. Reward programs attached to any financial product is on average worth much less than what may appear.
They are created by the same lawyers and marketing professionals who come up with the creative small print. So what do you want your children to know? A simple checklist should include helping them learn before AL's about the difference between wants and needs, how to save, how much people really earn and how a simple budget works. Later, they can be introduced to the basics of insurance, taxes, debt and investing. You also may want to tell them it isn't a good idea to run up massive debts, spend more than you bring in and fail to put money aside for the future. With all the complexities around investing, it's heartening to know that the simple truths of a few decades ago still apply, and will apply well in to the future.
(Kajanga is an Investment Specialist based in Sydney, Australia. You can write to him at firstname.lastname@example.org).