Simply Put: Not good at Mathematics? How about Arithmetic?

We often hear smart people admit that they are weak when it comes to mathematics. Possibly true. My relationship with mathematics at school turned out to be a tumultuous one, and I am glad that I made it out alive. An undesirable outcome of our school system is that we tend to carry our fears lifelong. So unfavourable is our experience that we don’t dare to look that side again.

When I think of mathematics, I think of the heights and depths of the subject, which include dreaded trigonometry and advanced calculus. Give me the result, not the process, I say!

But then, of late I started to notice that I was not that bad in arithmetic. Though I might find myself wanting at advanced mathematical equations. Maybe that’s all we need: knowledge of arithmetic. Simple numeric calculations that made sense. Anyway, there are advanced tools for advanced mathematic equations.

Why should I know arithmetic?

We must know basic math to calculate progress. Progress is best calculated in percentage, rather than by absolute number. Absolute number can comfort us, while percentage gives us a mirror one can depend on. Our opinions and views will have credibility when we back them up with numbers and facts. Otherwise, our views may be perceived as coloured, biased, or worse, mere assumptions.

 When we plan investments, we can calculate our annual return and compare, so that we can make the best investment decisions. When we think of returns, we often get lured by the absolute number of it. A rental income of ₹25,000 per month looks comforting. But when you know that you have spent ₹75 lakh to build and own the property, may be the returns are not as good, since you get only 4 per cent returns per annum from it. Annual average inflation is higher. In effect, you spend more than what you earn to maintain your asset, assuming you have no plans to sell.  

Was it tough to calculate? No! ₹25,000 multiplied by 12, you get ₹3 lakh. One simple way of finding 1 per cent of a big number is to remove the last two digits (or put the correct decimal, to be more scientifically correct). You get ₹75,000 as 1 per cent value of ₹75 lakh. (I just removed the last two digits).

Absolute returns can trick you to make you feel good about investment decisions. Take this example: a ₹5-lakh FD with a coupon rate of 10 per cent can earn you ₹6.5 lakh over three years. Post taxes, your returns could be lesser. Holding period returns can help you feel good till you meet compounded annual growth rate or CAGR. The CAGR in this case is close to 9 per cent.

If I were to liquidate an asset, it might feel wise to wait a year and get a better price, say, 10 per cent higher than my asking price as on date. To sell the asset at current prices and get a 10 per cent return with the money may just be the same. In fact, I would choose the latter just for the sake of investment options and freedom it gives.

There are investments that can give you up to 12 per cent return, which may help double your money in six years. ‘The rule of 72’ is the tool to use here, which gives us the number of years in which one can double one’s money. Just divide 72 with the expected rate of return, in percentage and you will get the number of years within which you will double your investment. Power of compounding makes a lot of difference, when you build your corpus for the long term.

I bet you are thinking about the 200 per cent gain you made in an asset over the last nine years. This may look less attractive now. You have made a CAGR of 8 per cent.  

Ok, I got it. How to be good at arithmetic?

We might be surprised how our neighbourhood vegetable vendor calculates the price of 400g of vegetables and gives us the price in a second, without ever using a calculator. If you look at the basics, it is not that tough. And the best part? We can get good at it with practice. That’s where the storekeeper outsmarts us. Don’t believe me? When we try it, we are not bad as we thought and in fact, we are good at it. You too can calculate 15 per cent of 200, without using a calculator.

Next time, when an investment opportunity merits your attention and time, do check the earning potential using percentage and compounded annual growth rate. Inflation can derail our best plans. Real rate of return measures our return net of inflation. With inflation hovering around 5 per cent, our returns should be enough to cover inflation and give capital appreciation.  As they say, a small hole can sink a ship and these minor charges can also prove to be quite impactful. Power of compounding works there too, and it is up to us to manage it. Knowing and using arithmetic to our advantage is easier than we earlier thought. Our bank balance will thank us for it.

The writer is AGM Training and Development, Geojit Financial Services