Vinod's Finance Page

Complexities of NRI Investing – Part 1

The vast majority of the books on finance and investing are directed towards people in the developed countries and for a certain life profile. Thus they make a number of assumptions that enables them to give simple guidelines for developing a financial plan. Some of these assumptions do not hold true for Non Resident Indian (NRI) who is planning to return to India for early retirement. The consequences of some of these assumptions can have a dramatic impact on the success of NRI’s retirement plan.

One such assumption is that investors earn and invest money over a long period of time. An NRI who is planning to earn a relatively major portion of all the money that he is every going to earn over a short period of time and also invest in that short period would violate this assumption. This has such a large impact because of one overiding principle of finance: The price you pay for an asset determines its returns. For any given stream of cash flows, the lower you pay the higher the return you get – this is true as long as you believe in addition, substraction, multiplication and division, and regardless of the amount of time you are invested in.

Take the example of two investors Ramu and Shamu, both of whom share identical goals and family circumstances except the year in which they returned to India. Both earned their money in US and plan to retire in India at an early age. Ramu planned to return to India in at the beginning of year 2004 and dollar cost averaged into the Indian stock market during the three years from 2001-2003 at an average Sensex value of 4000. Shamu planned to return to India in at the beginning of year 2007 and dollar cost averaged into the Indian stock market during the three years from 2004-2006 at an average Sensex value of 8000. Whether Ramu and Shamu hold their investments for 3 years or 30 years, Ramu would always end up with twice the money of Shamu in their Indian stock market investment. So if Shamu ends up with Rs 100 lakhs, Ramu ends up with Rs 200 lakhs. The long term is not going to bail you out of it. The price you pay matters – forever.

In the above, an investor who saved the same amount of money and followed the same investment plan ended up with half of the money of another investor following the same plan.

This also illustrates another important item. A person who invested around the bottom of the Indian stock market at around 3000 on the Sensex would end up with 4 times the return of someone who invested at when the Sensex is at 12000. If the Sensex ends up at 36,000 in say 10 years, the first person would be up 12 times his intial investment and the second person would end up with 3 times. In other words, the second person needs to save 4 times as much money as the first to end up with the same terminal wealth. A person is likely to invest in bonds and US and other international stock markets which have not gone up as much but it illustrates the potential risks to NRI investors who plan to retire in India.

On the other hand, if you are going to invest small amounts over a long period of time then it is going to average out and the terminal wealth is not going to differ by a whole lot.