Give a Financial Planning Approach to Your Savings
My friend Krish raised a query to me-“Jitendra, I am able to save Rs 5000 monthly but not able to decide where to invest”. The query was almost the same I receive from most of the investors where lot of confusion can be seen in deciding on investing. With so many investment avenues to analyze, investing hard earned money becomes a very complex exercise. It sometimes results in investment mistakes which jeopardizes the primary objectives.
Effective utilization of savings is very important to reach your financial goals. Adhoc investments can lead to non-fulfillment of life goals impacting your financial well-being. Since it’s difficult to meet all your short and long term needs with your limited resources, a financial planning approach helps in drawing a roadmap for prioritizing your needs and allocating savings accordingly.
Here are simple steps to approach your savings to ensure you meet your investment objectives:
1. Identify Your Goals: Without knowing where you want to reach, any roadmap you draw for your financial well- being is ineffective. Identify your goals even before you think of investing your savings. Ask yourself – What is it that you want to achieve through the savings? For a common man Retirement Income, Accumulation for child education/ marriage, buying a house, buying car, going for vacation etc. are goals where most of the concern lies.You might be thinking of buying a home but your current savings may not be sufficient for your retirement. Hence, list down all of your financial goals so that you can prioritize them according to your financial situation.
2. Quantify Goals in Numbers: Inflation eats your savings in the long term. This happens because cost of your financial goals increase due to this factor. For example if the cost of education of going to engineering college is Rs 10 lakh today then with inflation of 10% the same cost will rise to Rs 67 lakh in next 20 years.So when your child reaches the age of going to college you will need Rs 67 lakh and not today’s cost. Similarly, household expenses increases every year due to inflation. But your income does not increase in the same proportion which reduces your savings ability as you move ahead. Thus, it becomes very important to quantify all your goals taking future cost into consideration. The quantification helps in identifying the exact requirements for each of your financial goals.
3. Estimate the Return you should Earn: Generally, when you invest without any objective, any return earned is less. Your doubts start arising when your neighbor earns 1% more and then mistakes happen. Contrary to this when you invest through financial planning approach you are aware what returns can help in meeting your financial objectives. This helps in avoiding taking any undue risk which can jeopardize your investments. Once you have quantified your goals, identify the returns which will meet your financial objectives. This will also give you the amount of savings required to meet your goal knowing the time horizon to reach it and considering you earn a specified return on your investments. Through this exercise you can estimate savings required in both cases- being conservative and taking an aggressive approach.
4. Select the Right Asset Classes: For choosing any asset class time horizon of goals and risk tolerance is the key. Both these factors are identified when you do goal based planning and take the above approach. Basis on this you can select combination of asset classes which best matches your requirement. So if you have long term goals and need to beat inflation then investing most your savings through equityalong with some debt exposure may be the right mix. Similarly, if you have short term goals then debt instruments are more appropriate for meeting your objectives.Thus you can do an asset allocation which will help in meeting your long and short term needs.
5. Do a Review: You may receive a bonus from your pay or have received increment in your income. Instead of hovering around to invest it for return maximization, review your savings done initially and invest the additional surplus where there is a deficit. A financial planning approach gives you an elaborate strategy on allocating these surpluses towards goals where you are not able to allocate due to limited savings.
Financial Planning is a process through which you manage your finances efficiently.It not only helps in identifying gaps in reaching your goals but gives you a roadmap to bridge that. With one’s limited savings it’s difficult to allocate investments for all your goals right from the first day. To ensure optimization of your resources, implement financial planning process in all your investment decisions.