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Planning For Your Financial Goals Using SIPs
It’s critical to align your choice of funds to the time horizon of your goals, regardless of your risk appetite
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Over the years, mutual fund SIP’s (Systematic Investment Plans) have evolved as a top choice for planning for financial goals such as a child’s education, retirement, a home purchase, an emergency fund or even lifestyle goals such as a vacation or a car purchase. And why not? With the vast array of asset allocation choices available from the universe of Mutual Funds, one can tailor make their portfolio of goal based savings to match their time horizons and risk appetite. Additionally, equity oriented funds have the potential to outperform other traditional savings tools such as life insurance or recurring deposits by miles. Here are some points to keep in mind when it comes to goal planning using SIP’s.
Start by mapping your goals
The first step in your goal planning endeavour must be to map out your goals clearly. As Henry Kissinger said: "If you don't know where you are going, every road will get you nowhere." You don’t need sophisticated Financial Planning software and tools to help you draw up a basic goal plan. Simply visualize and identify your upcoming life milestones, and assign them a ‘today’s terms’ value. Having done this, apply a reasonable inflation rate, and come up with a future value for each one of these goals. For instance, you may have a nine-year-old son. Assuming you’d want to ferret away today's equivalent of Rs. 10 lakhs for his graduate studies, your saving’s target, assuming 7% inflation, should be closer to 18 lakhs by the time the goal year arrives. Do this for each of your goals.
Prioritise your objectives
When Queen crooned “I want it all, and I want it now”, he sure wasn’t referring to goal planning. When it comes to planning for your future goals, you need to instead prioritise them per your currently available surplus. For instance, let’s say that the total saving required for achieving all your goals is Rs. 25,000 per month, but your monthly cash surplus if Rs. 15,000. You need to decide which goals you’re going to start off with, and which ones you’re going to put off for a later date. As a thumb rule, prioritize the goals for which loans aren’t an option, and which require a small outgo over an extended time horizon (such as your retirement). By doing this, you’ll be reaping the maximum benefit from the compounding effect. When your monthly surplus does increase (for instance, through the cessation of an EMI or an increment), start off with a SIP for the goal that’s next in the pecking order.
Align your time horizon to the fund’s risk
It’s critical to align your choice of funds to the time horizon of your goals, regardless of your risk appetite. You may be a conservative investor at heart, but that doesn’t mean you should put away your retirement money into a debt fund that’ll earn you 8-8.5% per annum at best. Conversely, even a high risk taking investor shouldn’t start a SIP in an aggressive, equity oriented fund for a goal that’s less than 3-5 years away, as that would be tantamount to speculation. Longer term goals may automatically require smaller monthly commitments too; for instance, a 1 Crore saving amount in 30 years will likely require a monthly saving of less than Rs. 3,000. Use this as an excuse to build up courage to invest more aggressively. As a thumb rule, any goal that’s more than 10 years away should ideally have moneys flowing purely into aggressive, equity oriented funds. Don’t worry, the magic of rupee cost averaging will take care of the crests and trough that are typical of the stock markets, smoothing out your returns eventually.
Stay the course
Liquidity and low exit costs are often touted as two primary benefits of mutual funds. However, they can just as easily work against you and end up becoming the No. 1 enemy of your goals. SIP’s work best when they can run freely through the ups and downs of market cycles. When markets fall, you end up buying more units, and when markets rise, you end up buying less. Trying to time the market with your SIP’s, or repeatedly liquidating the saved amount midway is akin to taking two steps forward and one step back. We often grossly underestimate the impact of making interim withdrawals on our goals based savings, without fully understanding the effect of compounding. As an example, consider this: Rs. 10,000 saved in a goal based SIP (assuming a 12% annualized return) will grow to 8.16 lakhs in 5 years, 23 lakhs in 10 years, and 98 lakhs in 15 years. If you pulled out the accumulated principal every few years with the optimistic assumption that you’d be able to cover lost ground later, you’d never end up saving Rs. 98 lakhs in 15 years from a SIP of Rs. 10,000.
Ironically – this is the precise reason why so many investors are able to accumulate sizeable wealth from much lower return instruments such as life insurance or PPF; their hard lock in forces investors to consider other options when the need for liquidity arises. With a bit of awareness and self-discipline, there’s no reason why you cannot replicate the same benefits on a portfolio of goal based SIP’s. As a pertinent advertisement released by Canara Robeco Mutual Fund recently summed up: “Investing in SIP’s is like being in a relationship. You need to stay committed”