Ratios is what you deal with when you invest in stock or invest in some business project. Valuation of a profitable project is a challenging thing, in the same way valuation of your personal finance ratios is a bit challenging as a lot of of assumptions are involved in calculating the same.
The most important ratios in analysis an equity stock is EPS, P/E, Debt to Equity, Current ratios, Du-Point ratio (ROE), etc. The important personal finance ratio’s are Liquidity Ratio and Savings Ratio which gives an exact idea of your financial health.
1) Savings Ratio : Savings is one of the integral part of once investment process. Without savings there can be not much growth to your portfolio as it weakens the disciplined investment process.
It can be calculated as : Annual Savings / Annual Income. (You may take this as monthly figure as well) (Take values after deducting Income Tax)
Higher the savings ratio the better it is. Generally should be between (25% – 40%) Higher the income and lower the debt leads to higher savings ratio.
2) Liquidity Ratio : The more liquid you are the more you will be able to pay the short term bills. Indicates the number of months your contingency fund will support you during a period of low or no income.
Liquidity ratio = Liquid assets / Monthly expenses
Higher the better is desirable. If you have no liquid assets or Cash its better you start accumulating them.
3) Debt to Income Ratio : The Debt to Income ratio tells you the total monthly income that you spend towards any kind of debt.
Debt to Income Ratio = Monthly debt / Monthly income
Take the monthly income on after tax basis. Lower the ratio better it is.
4) Solvency Ratio : Indicates the degree of solvency or cushion that you have. Indicates your ability to take risks.
Solvency ratio = Net worth / Total assets
Any thing above 50% is considered a safe level and any thing below 25 – 20% indicates fall in the value of your assets could make you insolvent.
Check out how much you need to save today to achieve your goal in future – Financial planning tool
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