The following aspects should be kept in mind when planning objectives:
1. Factor Inflation
To understand the amount required, start with the target’s current price, and add potential inflation to it, which brings us to the amount required. This step is crucial to achieving long-term, non-negotiable goals like a child’s education and retirement. In the event of a spike in inflation, the target amount is expected to increase further. A realistic estimate of inflation is the average for the past decade.
2. Waiting for return
The second step is to determine a conservative estimate of expected returns based on the asset mix of our investments, over the target period. This is a risky step as there could be big swings in the economic scenario of the country/markets one is investing in. In any case, this will help us arrive at an estimate of the amount or amounts that will need to be set aside at the present time. At this stage, it is better to be conservative. Again, one can take the average yield of the last decade to appeal to the estimate of yield.
3. Investment amount
Now it’s time to assess how much money you can save today and in the future. The Income – Investment equation for planning goals = expenses should be followed for best results. Some goals like retirement planning (considering a modest lifestyle) plus a fund for medical emergencies are a requirement that cannot be avoided at any cost. So the earlier you start planning, the better. This will save you from splurging and constantly remind you of future monetary needs. A wise saying goes: If you keep buying things you don’t need, there will come a time when you may have to sell things you also need.
4. Track progress
Monitoring the progress of your investment is an exercise to be carried out at least once a year. This will help decide if there is a need to increase the investment amount due to factors such as lower than expected return, consistently higher inflation, consistently underperforming chosen investment avenue, etc. in right time.
5. Reduce risk as you approach the goal
If a financial objective is 3-4 years, it is important to transfer the corpus generated by the riskier asset class to mutual funds. Otherwise, intermittent market volatility can cause unnecessary hassles of borrowing to make up the shortfall or deferring the spending target.
Other benefits
Planning and investing ensures that there is always an element of discipline. Gradually, over time, investing becomes a habit. Another by-product of discipline is that you don’t allow yourself to be swayed by short-term market movements or fluctuations in performance. We always look at end goals when considering investments. For example: although driving at high speed may help you arrive at your destination by a few minutes earlier, there is a disproportionate risk and possibility of compromising the objective itself in the form of an accident. Similarly, attracted by higher returns, one should not increase the investment risk.
Another major benefit is that it provides a much-needed reality check. For example: if one wishes to retire early, but the current income and future (projected) growth do not allow it, then one will be aware of this early on and modify one’s plans accordingly. In such a case i) Try to increase your income and put more money aside ii) Increase the retirement age or iii) Moderate your aspirations.
Disclaimer: This article is written by Srinivas Rao Kasinathuni, Mutual Fund Distributor. The opinions expressed are those of the author and do not necessarily reflect the views of Business Insider India.