Do you know that a butterfly flapping its wings in New Mexico has the power to cause a hurricane in China? That’s the Butterfly Effect! It may take a very long time for that to happen but there is a real connection between the two events. The hurricane would not have been there if the butterfly had not flapped its wings at just the right point in space and time. The theory says that small changes in the initial conditions lead to drastic changes in the results. So, essentially the butterfly effect refers to the co-dependence of factors.
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Portfolio diversification
The butterfly effect tells us that we cannot predict what’s going to happen with any level of certainty. This is why you need to include a degree of defensiveness in your portfolio to minimise the risk of capital loss at any point in time. You can do this in several ways. One is to re balance your portfolio to maintain your original intended asset allocation. Another is by including bonds and cash in your portfolio. You could also do this by diversifying across sectors and regions. Diversification will ensure that if your returns from one asset class is low, another makes up for it. Adding fixed income investments will lower the volatility of your portfolio. Sticking to your asset allocation will get you good returns.
Learn how to mange your money & create wealth, Download your FREE eBook nowControlling expenses
The butterfly effect also applies to the seemingly insignificant everyday spending.Your spending and investing behaviors can have a big impact on your long-term financial stability. This has been known as the “latte factor”. This is the simple idea that trivial daily expenditures like a cup of coffee can add up to a massive loss of capital in the long-run. Understand that the effect isn’t just the sum of the cost of all those coffees, it’s also the loss of potential compounded growth if you had invested those daily amounts spent. That is why you have to regulate your spending and make a budget. Ensure that you spend much less than what you earn. Prioritise before you spend for purchases that need a lot of money. Making a list of your necessary and unnecessary expenses will help cut down on frivolous expenses.
Also read: How does expense ratios affect your Mutual Fund returns
Small events leading to big results doesn’t apply to only bad results, it can apply to good results too. You just have to make small choices and take small actions, starting now, to influence how your financial future is going to look.To attain financial security, you don’t have to squirrel away every spare rupee and live frugally like a hermit.All you need to do is make a commitment to take regular small savings actions. Once you start saving and investing, you can slowly increase the amount that you save and invest. This will help build a good amount over several years.
Let’s say you can save just Rs. 5,000 a month.After 5 years, at an interest rate of 7%, you will have Rs. 3.6 Lakhs. After 10 years at an interest rate of 7%, you will have Rs. 8.7 Lakhs. If the interest rate was 9%, at 5 years you would have Rs. 3.7 Lakhs; at 10 years, Rs. 9.7 Lakhs.
If you can save Rs. 15,000 a month, the results are:
- At 5 years, Rs. 10.8 Lakhs at7% interest; Rs. 11.4 Lakhs at 9%.
- At 10 years, Rs. 26.1 Lakhs at 7% interest; Rs. 29.2 Lakhs at 9%.
Now, these figures may not fund your retirement, but if you maintain a savings pattern throughout your working life, by the time you retire the balance will be considerable. As you progress through your career, you should be able to increase the amount you’re able to save. You should save for each of your financial goals separately. This way, you can ensure that you have saved enough for each goal. You can divide the savings among your goals so that you save every month for all the goals.
Also read: Should we time the market while investing in mutual funds?
Invest right
Every time you send a rupee out into the world – through investing – it creates an impact.The impact could be good, bad or indifferent but it exists irrespective of whether anyone knows about it, measures it, or even cares about it. This is much like the butterfly and its hurricane.However, now more people are beginning to care about the impact of their financial decisions.
Once investors become aware of the impact that their money is making, a new sense of responsibility leads to questions about their financial choices, such as: ‘What kind of impact am I presently having?’ or ‘What impact do I want to make?’ This change of mindset helps infuse the act of investing with a new energy and sense of purpose. This could be why when they invest, they want to stick to ethical companies and mutual funds. People want to invest in companies that are making a positive impact on the world.
When an investor decides to explore investing options that align with their personal values and goals, they will have to redefine the meaning of investment success and long-term value within their portfolio.They will be more conservative about return expectations and will book profits at reasonable levels. This will ensure that they are able to maintain a profitable portfolio.
To sum up, the concept of the butterfly effect should remind you to be cautious and take only appropriate risks in your financial decision making. You may think that you are being conservative in spending and you know everything about investing, but you have to accept that you have no control over what happens in the financial markets. It is best to leave your money to the experts, who can help identify the risks that might be on the horizon and will work to limit the impact of market downturns on your portfolio. A free Mymoneysage account can help you manage your wealth in the right way.
