COMMON FLAWED
ASSUMPTIONS WHILE INVESTING
1. Did you calculate the cost correctly?
·Very
few investors understand inflation, and even fewer factor in
inflation while setting their goals.
·They
get surprised how the maths of inflation can impact even short-term goals.
·If
inflation can upset a short-term goal, imagine what it can do to a long-term
goal like retirement.
·So, if
you have ignored inflation in your planning, be prepared for a penurious
retirement.
·The rate of inflation you should assume while setting a long-term goal depends on the goal itself.
·Healthcare
costs may be galloping at 15% and education expenses at 12%, but long-term food
inflation may not be so high, and telecom services have actually become cheaper.
·The
effective inflation should take into account the changes in the spending
pattern.
·Your
goals can be affected by other factors as well, such as the depreciation of the
rupee.
·So, financial
planning is not a start-and-forget exercise that can be put on an auto-pilot.
·You
need to track your progress once in a while, revisit your goals and indulge in
course correction, if necessary.
·To meet
your financial goals with ease, set an accurate target for yourself.
·Estimate
the present value of the goal and then find its future value by factoring in a
reasonable inflation rate.
·It is
better to err on the side of caution while setting the target.
·Aim to
save a little more for your goals than the anticipated value.
2. Have you chosen a suitable investment option?
·To reach
your financial goals comfortably, choose an investment option that suits the
time available for the goal.
·Don’t
be lured into investing in an equity-linked instrument if your time horizon is
short.
·If the
market tanks, it may take months, even years, to recoup your losses.
·The
short-term needy investor may not be able to wait till the market recovers.
·Sometimes,
people make the mistake of setting a high goal value for a short-term goal, and
then compound the error by investing in equity instruments.
·In the
process, they run the risk of losing their money and not achieving
their goals.
·Likewise,
don’t buy traditional insurance plans with single digit returns for your retirement
·Instead, your provident fund investments will not only give you higher returns, but also offer tax
deduction and tax-free corpus, the same benefits you get from the
life insurance policy.
·The
insurance plan may offer a life cover, but the amount is so small that it
becomes meaningless for the average investor.
·If the
goal is income protection, you need to buy a large cover with a pure term plan.
·Also,
remember to diversify your investments across asset classes.
·It is a
good idea to set an overall asset allocation for your portfolio besides having
an individual asset allocation for each goal.
3. Have you saved for other goals too?
·In
their fervour to give the best to their children, parents sometimes allocate a
large chunk of their savings to their kids’ education and marriage.
·Others
put so much into buying a house that there is no money left for other financial
goals.
·These
are emotional decisions and are devoid of financial logic.
·Just as
you should not put all your eggs in the same basket while investing, do not
allocate too much money to a few goals.
·If you
invest too much for just one goal, you will miss out on other crucial ones.
·The
idea is not to achieve only the key goals, but to optimize your resources in
such a way that they help achieve the maximum number of goals.
·To
avoid missing your goals, prioritize these on the basis of their importance.
·Some of
them could be luxuries (foreign holiday, bigger car), while others will be
necessities (child’s education, marriage and retirement).
·A high
priority goal, which is more than 7-10 years away, can wait while certain
short-term goals, even though discretionary, need immediate attention.
·If you
fall short of funds while allocating resources, dump the least important goals, or you
could scale them down so that they fit into the financial plan.
4. Are your assumptions realistic?
·The
long-term performance of the stock market and equity funds shows that equities
can generate spectacular returns, but don’t expect these investments to always give a
repeat performance.
·Your
returns will depend on how the economy fares, and the returns assumed in
your financial plan must align with it.
·The
investors who have assumed higher returns from these investments might be faced
with a shortfall when they reach their financial goals.
·Don’t
blame only the market downturn if you miss the target.
·Investors
can go wrong in their projections even if the returns are assured, as in the
case of fixed deposits.
·Make
sure you take the tax impact into account when you calculate the returns from
an investment.
·This
rule should be kept in mind for all investments other than long-term equity
products, life insurance policies and other tax-free options.