Do you ever feel like you don’t really understand your money and want to change that? Well, you’re in the right place! In this blog post, we’ve put together a list of the ten personal finance metrics. These are like special tools that can help you figure out how well you’re doing with your money. They’re not complicated; they’re quite simple to calculate.
The Context
The people who know personal finance hide their money very carefully — James Altucher
Personal finance metrics are the indicators that matter the most while assessing the growth of your finances.
They are important objectives that you must ethically establish for yourselves. These goals must also be reviewed frequently to assess how you are doing about achieving your overarching financial goals.
The ability of an individual or household to manage his/her present-future expenses is considered to be the primary indicator of personal financial condition. The money needed to accomplish this ability may come from a wage, a business, a profession, or from the assets amassed through time by setting aside and investing some of the money earned.
Understanding personal finance supports allocating the available current income to urgent costs and savings for the future. Every wise investor intends to create assets and manage expenses related to future costs but when income is insufficient to meet all needs, loans are taken out to pay obligations and amass assets. This results in incurring debt that must be paid off with future earnings. Your financial status thus is purely driven by how well you manage the interaction between income, expenses, assets, and liabilities.
To truly understand these challenges, it’s crucial for every self-guided investor, just like you, to use various personal finance metrics to gauge your financial situation. Think of it like checking a company’s financial health through fundamental analysis before buying its stock.
Feel free to browse our courses if you haven’t picked up this skill yet.
These financial metrics are simple to calculate and they provide a numerical representation of your current situation. Furthermore, they can simply be examined using income, cost, savings, and investment information. They hence aid in determining areas that need improvement and help deduce the future course of action. If you hang around on this blog as frequently as we do, it shouldn’t surprise you that we are very specific in selecting content for our top 10 lists.
We do this to make sure that we can provide our readers with pertinent, fast-acting financial advice for the fast-paced world of today. To fulfill our promise, we have compiled a list of the top 10 personal finance metrics that can help you master your finances in no time.
1. Savings to Expenditures Ratio
On this list of the top-ten personal finance metrics, the savings-to-expenditures ratio comes in at the top position. The percentage of annual income that a person can save is known as the savings ratio.
It is calculated as Annual Savings/Annual Income. For instance, imagine that your annual income is ₹10 lakhs and you save ₹1 lakh from that income.
Your savings ratio will be ₹100,000 ÷ ₹10, 00,000 = 10%.
Savings does not just refer to cash held in a savings account.
Savings also include money put aside during the year in fixed deposits, mutual funds, shares, debentures, public provident funds, national savings certificates, post office deposits, real estate, gold, and other investments.
In a few cases, some savings may not be available to you right away but they still count toward your annual saving. Your employer’s contribution towards the provident fund or superannuation fund, for instance, is still a part of your annual savings.
All income generated during the year from your job or business, as well as in the form of interest, dividends, rent, and other similar items, are to be counted toward your annual income. This ratio gauges how well-prepared you are to achieve your long-term objectives like retirement.
The total savings are calculated using the investments’ and assets’ current values, less any outstanding loans used to buy them.
Self-occupied homes are often excluded when determining the level of savings.
Since the appropriate ratio will always vary depending on your age, there is no competition in this ratio. When you are in your 20s, it is entirely normal to have little money saved because your spending is typically higher than your income. Moreover, a large portion of the surplus that is currently accessible is probably going to be used to pay off a mortgage or loan during your accumulation years.
As income rises and expenses level off, this ratio is anticipated to get better over time. As a general rule, you should have at least three times your yearly income in savings by the time you are in your early 40s.
It is hence necessary to successively increase the annual savings rate or the yearly savings percentage to income. As income levels rise, try to accumulate savings to a level appropriate for your age and stage in life.
2. Total Assets & Liabilities
It is important to keep track of your assets and liabilities and hence this one holds the second spot on our list of top-10 personal finance metrics. Personal assets are items that an individual or family owns that have current or future value.
Over time, your savings are typically invested in a variety of tangible and financial assets, including stocks, debentures, mutual funds, real estate, gold, provident funds, superannuation funds, and others.
Your total assets are hence determined by their current combined market value. The fact that real estate and other tangible assets are commonly bought utilizing a combination of loans and savings is also important to keep in mind.
When calculating the assets available to satisfy goals and financial needs, a conservative approach here would be to omit personal jewelry, one residential residence occupied by you and your family, and any other type of asset intended for personal use (such as a car or an expensive piece of art).
Loans and other forms of credit used to pay bills or buy assets are considered liabilities. These may come from official sources like banks and other financial institutions or private sources like friends and family. Liabilities suggest a commitment to deduct capital from future revenue.
Your capacity to pay other bills and accumulate savings for further assets is directly impacted by your liabilities. Therefore, liabilities must be used carefully, ideally to buy assets whose value appreciates more than the liability’s interest rate over time.
3. Leverage Ratio
The leverage ratio is a measure of the contribution of debt to your acquisition of assets and holds the third position on our list of the top 10 most important personal finance metrics. This ratio might be compared to the debt-to-equity ratio that we discussed in our article on the top 10 financial ratios to assess a company.
It is simply calculated as your Total Liabilities divided by your Total Assets.
For instance, if an individual has a bank balance and investments totaling ₹10 lakhs, real estate worth ₹50 lakhs, and ₹10 lakhs in a provident fund account. Also if a loan of ₹30 lakhs was used to purchase the property, of which he still owes ₹10 lakhs.
The person also owes ₹2 lakhs in credit card debt and ₹1 lakh in friend loans.
🖱 Total assets = ₹50 lakhs + ₹10 lakhs + ₹10 lakhs i.e. ₹70 lakhs.
🖱 Total liabilities = ₹10 lakhs + ₹2 lakhs + ₹1 lakh i.e. ₹13 lakhs.
🖱 Leverage Ratio = ₹13 lakhs ÷ ₹70 lakhs i.e. 19%.
The higher the leverage, the riskier it is for the person’s financial well-being. If the ratio is more than 1 or 100%, the assets are not expected to be sufficient to cover the liabilities.
This percentage frequently peaks sharply following a major purchase, such as real estate, but should gradually be tamed. The ability to service debt must be taken into consideration while examining leverage. You should also watch out for high-leverage financing resulting from dangerous investment positions such as options trading.
4. Net Worth
Your strong asset position is useless if the majority of those assets were purchased with outstanding loans. Liability is only acceptable if it has been utilized to create an asset with the potential to increase in value, such as real estate.
Therefore, it is common practice to always keep an eye on your financial situation using your net worth.
Total Assets minus Total Liabilities is your net worth.
For example, if you hold total assets worth ₹50 lakhs and your liabilities account for about ₹20 lakhs, your net worth will be ₹50 lakhs – ₹20 lakhs = ₹30 lakhs. It’s always a good exercise to measure the improvement or deterioration of your financial status over time by monitoring your net worth.
5. Solvency Ratio
Solvency is the state of not owing money to anyone or having the ability to pay your debts. A person may be insolvent even when they have assets if their liabilities outweigh the total value of those assets.
The person’s net worth should be positive, which is an important benchmark. The extent of the investor’s solvency can be determined through the solvency ratio, which is calculated as Net Worth ÷ Total Assets. For the same asset position, the higher the solvency ratio, the stronger the investor’s financial position.
For instance, if you hold total assets worth ₹50 lakhs and your liabilities account for about ₹20 lakhs (net worth becomes ₹30 lakhs), your solvency ratio will be ₹30 lakhs ÷ ₹50 lakhs = 60%.
💬 It can also be calculated as 1 – Leverage Ratio.
💬 Similarly, Leverage Ratio = 1 – Solvency Ratio.
6. Liquid Assets
Your liquidity takes the number 6 spot on our list of the top 10 personal financial metrics. You should be aware of your liquid assets at all times.
Liquid assets are those that can be quickly and readily converted into cash to cover bills or crises. Savings bank accounts, fixed deposits with 6-month maturities, investments in liquid mutual funds, as well as other short-term assets, are all examples of liquid assets.
On the other hand, some assets are difficult to turn into cash. For instance, real estate sales can take a while before the fair value is realized. The less likely is for you to experience a liquidity crisis the more money you have in your liquid assets.
There is however a price for liquidity.
For instance, banks often give lower rates of interest on shorter-term fixed deposits; liquid investments may also offer lower returns than investments in longer-term debt or bonds. It is hence not a practical approach, though, to retain all of your money in liquid assets.
You must strike a balance between your needs for liquidity and returns. Keep enough liquid assets on hand to meet your liquidity needs, and then you may invest the rest in longer-term assets like stocks and equity to maximize your return.
7. Liquidity Ratio
As you now understand the purpose of liquid assets is to satisfy short-term liquidity demands. It is typical to calculate your liquidity needs as the costs you will incur over the next six months (including loan repayments).
This is also referred to as an emergency fund.
Expenses over a longer time frame can also be taken into account in extraordinary circumstances. The liquidity ratio gauges how well you can cover your short-term liabilities. It is determined by dividing liquid assets by monthly expenses.
If your liquidity ratio is at least 4 to 6, you can comfortably cover your expenses for 4 to 6 months, even if your regular income were to be lost or fall. Let’s say your monthly expenses including loan repayments total stands at ₹2 lakh.
And, the assets you own have the following market values:
≡ Long-term equity (shares/stocks) ₹5 lakhs (illiquid)
≡ Savings bank account ₹10 lakhs (liquid)
≡ Short-term Fixed Deposits ₹5 lakhs (liquid)
≡ Long-term Fixed Deposits ₹8 lakhs (illiquid)
≡ Open-end liquid mutual fund schemes ₹5 lakhs (liquid)
≡ Other open-end mutual fund schemes ₹5 lakhs (illiquid)
≡ Closed-end mutual fund schemes ₹12 lakhs (illiquid)
▣ Liquid assets = ₹10 lakhs + ₹5 lakhs + ₹5 lakhs = ₹20 lakhs.
▣ Liquid Ratio = ₹20 lakhs ÷ ₹2 lakhs = 10.
Ideally, a ratio of around 6 or more indicates a comfortable situation to manage short-term obligations. This ratio should be low if the goals are spread out over a longer time frame.
A high ratio would also mean that a significant amount of the funds are invested in liquid assets, which would likely yield low returns.
8. Financial Assets Ratio
One of the critical asset-driven personal finance metrics is highlighted at number eight of our list ranking.
Did you know that all assets are not to be treated the same?
They are usually bifurcated as Financial and physical assets. Financial instruments like stocks, bonds, bank deposits, the Public Provident Fund, mutual fund investments, and others can be generally categorized as financial assets.
Physical assets however are more tangible ones like gold, other precious metals, diamonds, and real estate. Greater liquidity, flexibility, ease of investing, and ease of maintaining investments are a few benefits of owning financial assets as compared to their physical counterparts.
Although some of them, like equity-oriented investments, are held for long-term financial appreciation, they are predominantly assets that are expected to generate income if left intact. Investing in financial assets is simpler because they are well-suited to small, frequent investments.
Imagine you hold Stocks worth ₹5 lakhs, Fixed Deposits of ₹10 lakhs, Mutual Fund Investments of ₹15 lakhs, Land/Property worth ₹7 lakhs, and Gold worth ₹13 lakhs.
🖱 Your financial assets would be ₹30 lakhs (5 + 10 + 15); Stocks, FDs, MFs
🖱 Physical assets are ₹20 lakhs (7 + 13); Land & Gold
🖱 Total assets would hence be ₹50 lakhs (30 + 20)
💬 Financial assets ratio = [(₹30 lakhs ÷ ₹50 lakhs)*100] = 60%.
A higher percentage of financial assets ratio is preferable when goals require additional boost or funding to be met, especially when they are closer to being realized.
9. Debt to Income Ratio
Debt to income or leverage ratio comes in at number nine on our list of top 10 personal finance metrics. The leverage ratio calculates how much debt was used to buy assets. The ability of the person’s income to cover or service the obligations stemming from all outstanding debt, however, is not directly measured by this metric.
The debt-to-income ratio is a criterion used by lenders to measure a borrower’s eligibility for additional loans as well as an indication of their capacity to manage current obligations given their available income.
💬 It is computed as Monthly Income ÷ Monthly Debt Servicing° Commitment.
All payments, whether for principal or interest that are owed to lenders are referred to as debt servicing.
For instance, let’s say you make ₹1.5 lakhs per month and have monthly loan payments of ₹60,000. Your debt-to-income ratio will be 60,000/150,000, which equals 40%.
A ratio of over 35% to 40% is generally considered to be excessive. Your ability to cover monthly expenses and save money may be impacted by the fact that a significant percentage of your income is dedicated to meeting these responsibilities.
In this situation, obtaining a loan in an emergency may be difficult as any decrease in income would put a strain on your finances.
10. Inflation Hedge Ratio
The strategy of hedging inflation offers protection when the value of the currency drops and hence this personal finance metric features at number ten on our list. Investing in assets with a historical ROI (Return on Investment) higher than inflation is a common way to protect ourselves against inflation.
Savings options like FDs may appear to provide a secure return. However, after inflation is taken into account, you might find that you are losing. For instance, if the annual inflation rate is 7% and you invest in an FD with 5% returns after taxes, your purchasing power is declining by about 2% annually.
Most of the assets employed as inflation hedges have self-fulfilling properties. They are used by investors to obtain a true rate of return (i.e. a return over the inflation rate).
With its specific limitations, such as volatility risks, stocks are a frequently employed asset class for investments that serve as inflation hedges. Your age, level of risk tolerance, and financial objectives all play a role in determining the ratio at which you should invest in inflation-proof assets (such as stocks or equity mutual funds).
Conclusion
To spot financial health patterns, ratios must be calculated regularly— let’s say, once a year. Personal finance metrics help in identifying the areas that require remedial action to enhance your financial reputation.
The patterns that emerge also demonstrate how we’ll your previous actions have worked. Although standards have been set for each personal finance metric, the circumstances of each investor may require that these standards be modified as needed.
This brings us to the end of our top 10 list of most important Personal Finance Metrics. We’d love to know what you think about this compilation in the comments below.
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