The Pareto principle in wealth creation

For Do-It-Yourself investors, Arun Kumar's book offers an easy primer on everything from how to get started to avoiding pitfalls

The 80-20 Money Makeover

Author: Arun Kumar

Publisher: Harper Business

Pages:  338

Price:  Rs 499

My investment journey began around 2005-06. I committed all the typical mistakes a rookie makes. I chose funds displaying very high returns over the past one or three years. After I bought them, their performance dipped within a year or so. I switched funds only to witness the pattern being repeated. Not knowing why this happens—the market favours different investment styles at various points—I came to believe the fault lay in my stars.

Fortunately, the news organisation I worked for then had a few veteran personal finance journalists. They constantly extolled the virtues of exchange-traded funds (ETFs). Without fully understanding their pros and cons, I latched on to a couple of these passive funds because my in-house gurus said doing so would rid me of the problem of selecting funds.

Those funds, which very few invested in then, served me well. Since one can’t run a systematic investment plan (SIP) in ETFs, I was inconsistent. Some months I didn’t have any money to invest. And whenever the markets crashed, I was too scared to put in more money. But my love for inaction—laziness, in plain English—proved a blessing in the equity markets. Simply staying invested for over a decade and a half has allowed me to reap the benefit of compounding.

Meanwhile, many people around me crashed and burned. A cousin bought seven unit-linked investment plans (Ulips) around 2001-02. These newly-introduced products were then touted by the insurance industry as a more transparent alternative to traditional plans. What was not revealed was that they came with very high fees. Seven years later, when he exited, he barely recovered the premiums he had paid.

Some friends and colleagues caught the real estate bug between 2003 and 2007, when prices were soaring, and invested in flats in the Noida-Greater Noida region. Many of them fell prey to the great heist developers in the National Capital Region (NCR) orchestrated against buyers. A few are still awaiting delivery.

In recent years, mutual funds have gained immense popularity with their assets under management (AUM) reaching Rs 61.3 trillion in June 2024.  While people are flocking to them (especially on the equity side) and using the SIP route, many don’t seem to be investing wisely. Financial planners report seeing numerous portfolios stuffed entirely with small and midcap funds — market segments that have done well recently. The high collection figures of new fund offers — basically, funds with no track record — tell their own story. The monthly data from the Association of Mutual Funds in India (Amfi) reveals significant flows into sector and thematic funds. Do the individuals investing in them fully appreciate their risks?

Many do-it-yourself (DIY) investors do not understand the concept of asset allocation and the need to construct portfolios diversified across equity, debt and gold. Fewer still are aware of the need to rebalance their portfolios at least once annually to curb risk.

So long as equities are scaling new highs, these bull-market excesses will remain hidden from view. But one shudders to think what will happen when the market corrects.  

New investors must make a prudent start in the equity markets and avoid losses that could leave them scarred. They should ideally pay a financial advisor a fee to build suitable portfolios for them. If they are unwilling or unable to do so, they should read a book like Arun Kumar’s recently published The 80:20 Money Makeover.

Mr Kumar, head of research at FundsIndia.com, begins with advice on how to put the basics in place. The reader learns how to automate saving and investing, set up an emergency fund and buy adequate life and health insurance.  

Next follows a chapter on investing for short- to medium-term term goals of six months to five years. Here, Mr Kumar offers a primer on selecting the right fixed deposits and debt mutual funds. 

Having laid the groundwork, the author then explains how to embark on the path of wealth creation. This journey is again divided into three stages: Early wealth creation (up to 5x annual expenses); advanced wealth creation (5x to 25x annual expenses); and financial freedom (more than 25x annual expenses). The book concludes with advice on avoiding the behavioural pitfalls that prevent investors from reaching their financial goals.

As the book’s title indicates, Mr Kumar has focused on offering readers the key tricks of the trade that can help them create wealth. The effort that has gone into weeding out all complexity from this project is commendable. He has successfully put himself in retail investors’ shoes and offered detailed answers to the questions they typically ask. The advice on portfolio construction and management at various stages is invaluable. Use this book as a step-by-step guide and companion during your journey of wealth creation.