Every time the Indian markets, a specific stock, or a sector reaches a new milestone, a new notification from the media appears on our mobile phones. We hear so much about the increasing economic developments as well as the innovations through numerous startups taking place all over the country. These achievements make us believe that we have a higher scope to earn returns. But when we look into our portfolio returns, they make us realize that there is something that is pulling our portfolio down. Often the portfolio returns would be below the high expectations we may have set for ourselves. There could be various reasons behind it. Let us try to understand these reasons one by one:
1. Inappropriate Asset Allocation: Your asset allocation plays an important role in the overall performance of the portfolio. It can be impacted by both underexposure and overexposure to a single security or asset type. The asset allocation of your portfolio with time will have the greatest impact on the portfolio performance as different asset classes have different risk and return trade-off. It would be challenging to achieve higher returns with the lower allocation to growth assets. Moreover, the portfolio’s asset allocation should be closely monitored as many opportunities can be missed over the investment period.
2. Wrong selection of products: It is important to match the product features with their suitability for you to get the best results. However, if you try to forcefully fit a product in your portfolio, just because you like it, the result is most likely to go unfavourable. Say, for example, you have invested majorly in guaranteed plans and the timeframe for that particular investment is around 15-20 years, it is possible that you may earn lower inflation adjusted returns in the long run.
3. Frequent buy/sell transactions: Any asset class needs a certain time to perform. In a rush to attain quick momentum profits, you may try to transact buy/sell positions frequently. You will most likely cut your winning bets too early. Frequent transactions could not only lead to high risk & costs but could also result in increased tax liability. Ideally, an asset class or product should be given sufficient time to perform in accordance with its suitable investment horizon.
4. Concentrated Portfolio: It is a common saying that one should not put all eggs in one basket as it could increase the risk of your portfolio. This is advised to avoid concentrated risk in a portfolio. If you have a higher allocation to a certain sector or security, your portfolio is more likely to go down in an event of a market correction, moreover, you are also exposed to liquidity risk. Hence, ideal diversification helps to reduce the concentration risk in the portfolio. Having said this, too much diversification also means that you are exposing your portfolio to sub-performing and riskier assets/investments.
5. Missing reviews: Your portfolio and investment plans need a periodic review. With time, your financial situations, family composition, lifestyle and needs /desires change. There might also be extreme market movements throwing up opportunities to invest or book profits. Not reviewing your portfolio on a periodic frequency or need /event-based, can put your portfolio on a lower-performing trajectory. Without reviews, you would be also losing sight of your targeted asset allocation and miss the benefits of actively managing your asset allocation.
6. Timing- a myth: It is a tendency of an investor to time the market. Quite often most investors keep waiting for market corrections before investing and in the process, lose precious time in the market and returns that they could have enjoyed. Although market valuations do have an impact, but timing the market is very difficult. Our focus should be on the period of the investment, rather than timing the market. Many studies have also shown that timing markets as a strategy have a very negligible impact on portfolio performance over the long term.
7. Unreasonable expectations: Most first-time investors enter the markets in the middle of a bull run or when that bull run is coming to an end after knowing of the huge returns that people have made in a short period of time. People expect that markets will continue to perform in a straight line and deliver handsome returns on their investments without really understanding how markets and equity investments function. Thus, you may feel that your portfolio is underperforming when you have set unreasonable return expectations in a short period of time.
Conclusion
Ensuring that your portfolio asset allocation is optimum and in tune with your risk profile and expectations, both are the first step of any investment journey. Next, one should regularly keep reviewing the same and make the necessary changes. Having the right expectations and financial behaviour may also impact your satisfaction levels. Not all of us may have the necessary time, knowledge or ability to do all this consistently over time. This is where an expert or a mutual fund distributor can play a very important role in making sure that you and your portfolio are aligned to each other and more importantly, your portfolio behaves in line with your expectations over time.
“Successful Investing is managing risk, not avoiding it.”
Benjamin Graham, the father of value investing might have said this decades ago, but it still holds true. Any investment entails some element of risk. Depending on the asset class and the underlying investment attributes, the risks would differ. If you are investing without understanding and managing risk, you are playing a dangerous game. We cannot completely eliminate investment risk, but we can definitely reduce it by managing it effectively. Now, you must be wondering how we should manage the risk? In this article, we will explore some smart ways to reduce such investment risk.
Every asset class and the related investment is vulnerable to certain risk factors, and the most common mistake investors make is not understanding and/or ignoring such risks. When we are investing, we need to adopt investment risk management strategies for reducing losses and investment risk. Optimum risk management can help you grow your wealth and achieve financial goals with ease. So, let us discuss 7 smart ways to reduce investment risks.
(a) Know your Risk Tolerance Capacity:- Risk tolerance refers to the ability of an investor to pursue the risk of losing the capital. Risk tolerance mainly depends on your financial obligations and age. As a general rule, younger investors tend to be more risk-tolerant than older investors. Knowing your risk tolerance will allow you to focus on instruments that match your risk appetite. It is critical to understand how much risk you can take and invest accordingly.
(b) Maintain Adequate Liquidity in Your Portfolio:- One thing that COVID has taught us is that a financial emergency can strike at any time! So, in the event of an emergency, we may need to redeem our investments anytime, even when the markets are down. This risk can be mitigated by maintaining adequate liquidity. Having liquid assets in your portfolio can help you in uncertain times and act as your financial guard. One of the ways of maintaining sufficient liquidity in your portfolio is by setting aside an Emergency Fund that should be equal to 6 to 8 months of expenses.
(c) Implement an Asset Allocation Strategy:- Asset allocation can be a crucial point to your overall investing pattern and one should have own asset allocation strategy rather than mimicking others. There are asset classes available to invest like Equity, Debt, Real-Estate, Gold, Commodities, Alternative Investments, etc. To help ensure the success of your portfolio, you may consider employing an asset allocation strategy that involves a mix of assets that are negatively correlated; for instance, when one asset class is not performing well, the other asset classes should perform well, reducing the overall risk of the portfolio. Here in India, retail investors primarily invest in Equity, Debt with some exposure to Gold.
(d) Diversification:- By diversifying your portfolio across different asset classes, products, sectors, industries, etc., depending on the underlying product, you can reduce the overall investment risk, specifically the unsystematic risk which is limited in nature and not affecting the entire market uniformly. If you are investing in Equity Mutual funds, then you can diversify by investing in large, middle or small-cap equity mutual funds, style of investing and also at the AMC level. Diversification gives the portfolio some cushion for specific risks arising in select investments. However, diversification only to a point is logical and over-diversification is not recommended. The reason is, you may not get any additional benefit for diversification, the question of manageability and lastly, you may find non-performing investments creep into your portfolio. Warren Buffet once said, "wide diversification is only required when investors do not understand what they’re doing".
(e) Focus on Time in The Market:- In the formula of compounding, the variable of ‘n’ - period makes the real difference. Here, people often focus on ‘r’, i.e. how much return will it give, but ignore the ‘n’ factor. The holding /investment period also matters a lot in managing risk, especially when it comes to equities. We all know, equities are far too risky in the short term as it gets impacted by news, events and so on. But in the long term, the price growth would mimic the profit or revenue growth of the company. Risk management can be also done when you match the ideal investment horizon with the asset class. In equities, your focus should be to spend as much time in the market and forget about timing the market, which no one can predict.
(f) Due Diligence:- It is always important to conduct due diligence before investing. If you are buying a stock for long-term investment purposes then you should consider the quality of management, the fundamentals and also the technicals while making buy/sell decisions. That’s a lot for a normal investor. Investing through mutual funds eliminates this to a large extent but still requires some due diligence and this is where a mutual fund distributor helps a lot. If you blindly follow the tips of others and from what you hear and read in popular media, without your own research, it will lead to losses.
(g) Monitor Regularly:- Having created a portfolio, one also needs to monitor their portfolio regularly. If you’re a long-term investor, that doesn’t mean that you invest and forget about your portfolio in this fast-paced world. Periodic reviews aid in identifying and closing the gaps. With time, your portfolio asset allocation changes, the economic fundamentals change, the personal risk profile and investment objectives change, the attributes and performance of underlying investment avenues also change, and so on. If you do not monitor your investments on a regular basis, the risks in your portfolio also increase. As a result, keeping track of your portfolio becomes critical and it is recommended that you revisit and review your portfolio at least once a year.
Summing Up
As every investment involves some risk, it is impossible to construct an investment portfolio that guarantees zero risk. However, by implementing the strategies discussed above, we can ensure that you will be able to find the appropriate balance between risk and return. Optimum risk management allows your investments to grow and help you to achieve your financial goals with ease.
Even though the COVID-19 global pandemic began more than two years ago, we are still feeling the effects and disruptions in our lives. If we've learned anything from COVID-19, it's that the only thing certain in life is uncertainty.
It is a fact that unexpected events occur. You can sit down and make all sorts of financial plans and budgets but life, on the other hand, has its way of striking. Whether it's a medical emergency, a major home or vehicle repair, a death in the family, or any other unexpected event, your finances are thrown out of the window. These situations can be emotionally as well as financially draining. Even the most meticulous planners can be caught off guard by an unplanned or unprepared event.
There is no way to predict the future, but the best way to deal with them is to be prepared for the unexpected ahead of time. Just as you should adjust your plans to accommodate unexpected weather, you should also have a financial backup to accommodate unexpected expenses. Here are five tips to help you deal with unexpected expenses and be better prepared for a rainy day.
1. Tighten your belt
As a general rule, for wealth creation and financial freedom, we need to save aggressively over a short period of time. People looking to retire early too need to cut expenses and save more in a short time. Cutting down on your expenses becomes avoidable if you feel that your financial situation is not good and if you feel that there are bad times ahead. To stay prepared for such a situation, one needs to cut back on non-essential and discretionary expenses. Examine your spending habits and make a note of any such expenses you could forego. It will make you save more and make your cash last longer during a crisis. Frugality, minimalism and short-term sacrifices, to the extent you feel comfortable, will surely pay off in the long run and save you in your rainy days.
2. Set up an emergency fund
The primary step in preparing for a rainy day is to set aside a sufficient emergency fund. When unexpected expenses exceed your monthly budget, an emergency fund can help you stay afloat.
There is no universal measure for emergency funds. As a general rule, save at least three months' worth of your regular expenses. This amount of money cannot be saved overnight. The trick is to start saving small amounts regularly and consistently so that you can accumulate your desired amount over time. Even if you can only save a small amount, it will give you a sense of security if you need money right away. To avoid being tempted to spend your emergency fund, keep it in a separate savings account.
3. Get adequate insurance coverage
It is easier said than done to protect your loved ones and prepare for the worst-case scenario, but it is critical in today's world to be prepared for the unexpected. It is vital to ensure that you have sufficient insurance coverage for all possible scenarios. To help mitigate the financial impact of any unexpected event, people of all ages and income levels should purchase insurance policies as required, covering the different risks that they are exposed to. This includes the risks of the 4 Ds' - death, disease, disability and damages.
Apart from life insurance and health insurance, one must also explore other insurance covers like personal accident, critical illness, travel insurance, global health insurance, etc for personal coverage. In addition, vehicle insurance with comprehensive coverage, home insurance, shopkeepers insurance, fire & marine insurance, professional indemnity, etc can also be explored on a need basis.
4. Have a passive or secondary income
Sometimes, the salary from your primary job is not enough to make ends meet. So, having a side hustle or a passive source of income pays off. As a result, you can save and invest the money you earn from them to create wealth, an emergency fund or to fund your discretionary expenses, without affecting your monthly budget. It is an excellent way of improving your financial security and hedging against your primary income source. Having multiple income sources can be a boon in times of crisis and it is something everyone should aspire for.
5. Have low liabilities
It is always better to have low liabilities and debt, regardless of your financial situation. As a general principle, your monthly debt repayments, or EMIs, should ideally be lower than 30% and never more than 50% of your net income. Having too much debt can lead to a cycle of overwhelming stress and the inability to save for future financial security. With credit easily available, most of us would be tempted to fall into the debt trap, spending more on non-asset creating, personal and consumer loans, at the cost of future wealth creation. In times of financial difficulties, your debt burden will be the primary cause of high stress on you and your finances.
Summing Up
You don’t require any crystal ball to be prepared for unexpected events you couldn’t have predicted. You don’t need to know where they will occur, or even what they do, to protect your personal finances and safeguard your financial goals. The above things can help you not just tide over bad times and situations of financial stress but also prepare you to face uncertainties in life with confidence. As the new year starts, let us step up our finances and indeed our financial objectives and behaviour and set the right tone for the rest of the year.
Saving and investing is a big part of your financial plans. Sometimes, even planning for your cash outflows becomes a vital component of your financial plan. If you are looking for regular and predictable cash flow from your investments then the automatic choice for most of us would be the traditional avenues like bank FDs and postal deposits. However, the falling /low-interest rates on these schemes and inflation have made people worry about their future. The big questions are, will the cashflows it be sufficient and how long will the investment last?
Against this backdrop, Systematic Withdrawal Plans (SWPs) offered by mutual funds are increasingly gaining popularity and can be a great choice for investors looking to generate cash flow from their investments at a regular frequency. In this article, we shall dig deeper to know more about SWPs.
What is SWP?
Most of us are aware of SIP (Systematic Investment Plan) for creating long-term wealth. The SWP (Systematic Withdrawal Plan) is like the reverse of SIP wherein instead of investing money at regular intervals, investors withdraw/redeem a fixed amount from a scheme in an automated way.
The SWP serves as a perfect tool for planning for that phase in your life where you are dependent on cash inflows, for whatever reason. Here, the investor would usually make an initial investment in the chosen fund and then plan for SWP, either immediately or starting at a later date. The investor has the flexibility to customize the amount, the withdrawal frequency and the period of withdrawal - fixed instalments or till the balance is available in the fund. The investment lying in the fund would continue to grow, generating wealth for the investor, helping beat inflation and making sure that the fund lasts longer and the SWP continues for a longer period of time. The SWP is also a smarter and more tax-friendly way of withdrawing money.
When can SWP be used?
1] Retirement planning /creating own pension
A very common use of SWP is in retirement planning. Here, a part of the retirement corpus is invested in a hybrid scheme, with a mix of both asset classes - equity and debt, giving the best of both worlds. The equity is for the long term, for that extra boost of growth and the debt is usually for short-term safety. The choice of the fund category and scheme, however, depends on your needs, the risk profile, and the investment horizon, before the start of SWP.
2] Creating a secondary source of income
A SWP can also be started in financial situations where there is a temporary need to supplement your income, like the recent pandemic. If you have adequate investments, an SWP could be used to meet your temporary financial needs. Also, instead of withdrawing a big amount in one go, one can smartly use SWP to maintain some stability in your spending. Note that in times when you have surplus cash inflows, aggressive savings should be done using SIP instead of withdrawing with SWP.
3] Meeting specific cashflow needs for someone
Another smart use of SWP would be in scenarios where you invest and dedicate a corpus for a specific objective/regular expense and an SWP is created to finance the same. The corpus would keep growing slowly while small withdrawal amounts would be credited to the bank account and from this, the intended expenses would be met. Even these expenses can be automated to ease your life. As an investor, you would only need to keep track of the fund balance from time to time and replenish it, if required. There can be many scenarios where such an approach can be used in financial planning. A few examples are cited below.
- Investing on behalf of children and then having SWP for education fees and pocket money
- Investing on behalf of the wife and then having SWP for monthly household expenses, etc.
- Investing on behalf of dependent parents and then having SWP for meeting their expenses
The right withdrawal rate:
This is an interesting question. What should be your sustainable or safe rate of withdrawal in order to make sure that your fund lasts for the required period of time and even longer? A complementary question would be, what should be my investment corpus to have the desired stream of money last for the required period of time? This is in fact at the heart of everyone trying to retire early and for those who are reaching retirement soon.
The withdrawal rate is the percentage of corpus you intend to withdraw every year. So a 4% rate on a corpus of Rs.25 lakhs would mean that you are withdrawing Rs.1,00,000 every year (Rs.8,333 monthly). Obviously, the lower the withdrawal rate and the higher the investment corpus, the better. Also, the expected returns from the fund also matter in replenishing itself and growing to finance withdrawals for a longer period of time. While a rate of up to 3-4% may be considered safe, a lower rate can help account for market volatility, uncertainties and lifestyle improvements. The withdrawal rate should be as per your need - a higher rate would mean that your corpus gets exhausted early and a lower rate would be insufficient.
Benefits of SWP:
a] Rupee Cost Averaging: Just like SIP bring discipline in investing, SWP brings discipline in withdrawals. You also benefit from rupee cost averaging with SWP, since a fixed amount is redeemed on a regular basis and one is not too much concerned about market volatility. With SWP, redemptions will be spread out evenly and it will protect you when redeeming a large amount at a time when markets are low.
b] Tax Benefits: The amount withdrawn in an SWP consists of the original investment and the capital gains, on which there is tax liability. The capital gains tax is payable only on the portion withdrawn, unlike traditional investments where the entire interest generated on the investment is taxable on an accrual basis. Further, there is no TDS deduction on SWP withdrawals. With mutual funds, you can enjoy better tax treatment compared to traditional investments.
To Conclude
SWP is an efficient and optimal way to plan for regular cash inflows. However, one must be careful and keep the financial objectives in mind. Remember, unplanned and unnecessary SWPs can cut short your wealth-creation journey. Get in touch with your mutual fund distributor today, to plan the right investment strategy, suited to your needs. Happy investing!
As you grow in life your needs and wants also grow. When you get your annual salary increment, the first thought always tends to be about your increased spending and borrowing capacity. With more money comes the added temptation to spend more and upgrade your lifestyle. This is human nature to want more when we have the means. Rarely does one think that with increased income, you can save more too! Almost everyone tends to ignore regular increases in investments and savings in the same proportion as your income growth.
While you may have allocated a fixed amount for investments such as mutual funds via SIPs, it is also important to increase the amount to match the hike in your income. More money in your hands not only means an increase in the ability to spend. It also means the responsibility to save and invest more.
However, it would be an additional task to increase your investments every year manually. The answer to this is the top-up or step-up facility available for SIPs. A SIP top-up allows you to increase the SIP amount at a pre-determined interval. For most fund houses, the interval is half-yearly or annually. The SIP top-up amount can be specified as a fixed amount at the set frequency over the original SIP amount.
Wealth Creation with Top-Up:
Increasing your mutual fund SIP even by a small amount will help you to make more money in the long run. Let’s see the comparative results for a period of 15 years and an assumed return of 12%.
|
Fixed SIP |
Wealth Created Fixed SIP |
Top-Up Amount Every Year |
Wealth Created With Growing SIP |
|
₹5,000 |
₹23,79,657 |
₹1,000 |
₹47,49,940 |
|
₹10,000 |
₹47,59,314 |
₹2,500 |
₹1,06,85,021 |
|
₹25,000 |
₹1,18,98,285 |
₹5,000 |
₹2,37,49,699 |
As is visible, the wealth created more than doubles for the given horizon. Even small changes in the top-up amounts can lead to significant impacts in longer investment horizons.
How Top-up SIPs can be helpful to you?
Some of the significant benefits of stepping up your SIP amount or increasing them periodically are as follows:
- Convenient way to fight inflation: Inflation, or rising prices, erodes the purchasing power of our hard-earned money. A fixed SIP over the years means that you are saving less and less, as the value of money decreases. Further, the amounts that seem substantial to fulfil a financial goal today may not be a few years down the line as your status /living standards improve. Top-up SIP helps you counter inflation and keep you on track to match the impact of inflation on your overall financial plans. It is advisable to raise the SIP contributions equivalent to the inflation rate or more, just to maintain the real value of savings with time.
- Achieving bigger and faster goals: Regular growth of SIPs can help you reach your financial goals faster as you can accumulate the target amount earlier than the planned maturity date. The more you invest, the more you can accumulate with the power of compounding. Further, If your goals have a fixed maturity date, then you will have a higher accumulated wealth giving you more choices.
- Safety net for lower returns: At times, it may happen that the markets haven’t delivered the expected returns and/or at the time of goal maturity, the markets are in a bear phase. During such times, if you have increased your SIP more than initially planned, then it is likely that this risk is reduced. With additional wealth created with that extra top-up /new SIPs, you will have a margin of safety for market volatilities.
- Better use of your increased income
When you get an annual increment, you may not immediately think of increasing your investments. But, if you top-up your SIPs annually by the expected increase in your income, you will automatically make prudent use of part of your risen income. Auto debits ensure you save and invest regularly. The proportion of your savings grows along with the rise in income and cost of living and maintains your overall savings ratio.
How to boost your SIP?
There are two ways to step-up your SIPs every year.
- Start a fresh SIP and decide how much more money per month you’d like to invest. You can do that either in the same scheme (the SIPs won’t get clubbed) or in another scheme in the same folio.
- If you have an existing SIP and you want to increase your contribution, very few fund houses allow you to do that midway. However, most fund houses allow you to decide the top-up amount right at the time when you start your SIP, before you pay your first instalment. So, it is better to opt for a top-up SIP while starting your SIP.
Conclusion
SIPs help you become financially disciplined through regular investments. SIP top-up further ensures that you save and invest your disposable income to keep pace with inflation and growing income. It helps you build a superior corpus faster and accelerate the journey to reach your goals sooner. As a habit or a practice, always try and have top-up registered with your SIP the next time you start one. Every extra rupee saved, will add more towards your financial well-being.
