Stashing Your Cash: Mattress or Market?

When stock markets become volatile, investors get nervous. In many cases, this prompts them to take money out of the market and keep it in cash. Cash can be seen, felt and spent at will, and having money on hand makes many people feel more secure. But how safe is it really? 

Read on to find out whether your money is safer in the market or under your mattress.

All Hail Cash?

There are definitely some benefits to holding cash. When the stock market is in free fall, holding cash helps you avoid further losses. Even if the stock market doesn't fall on a particular day, there is always the potential that it could have fallen. This possibility is known as systematic risk, and it can be completely avoided by holding cash. Cash is also psychologically soothing. During troubled times, you can see and touch cash. Unlike the rapidly dwindling balance in your portfolio, cash will still be in your pocket or in your bank account in the morning.
However, while moving to cash might feel good mentally and help you avoid short-term stock market volatility, it is unlikely to be a wise move over the long term.

A Loss Is Not a Loss

When your money is in the stock market and the market is down, you may feel like you've lost money, but you really haven't. At this point, it's a paper loss. A turnaround in the market can put you right back to break even and maybe even put a profit in your pocket. If you sell your holdings and move to cash, you lock in your losses. They go from being paper losses to being real losses with no hope of recovery. While paper losses don't feel good, long-term investors accept that the stock market rises and falls. Maintaining your positions when the market is down is the only way that your portfolio will have a chance to benefit when the market rebounds.

Inflation Is a Cash Killer

While having cash in your hand seems like a great way to stem your losses, cash is no defense against inflation. You think your money is safe when it's in cash, but over time, its value erodes. Inflation is less dramatic than a crash, but in some cases it can be more devastating to your portfolio in the long term.

Opportunity Costs Add Up.

Opportunity cost is the cost of an alternative that must be forgone in order to pursue a certain action. Put another way, opportunity cost refers to the benefits you could have received by taking an alternative action. In the case of cash, taking your money out of the stock market requires that you compare the growth of your cash portfolio, which will be negative over the long term as inflation erodes your purchasing power, against the potential gains in the stock market. Historically, the stock market has been the better bet.

Time Is Money

When you sell your stocks and put your money in cash, odds are that you will eventually reinvest in the stock market. The question then becomes, "when should you make this move?" Trying to choose the right time to get in or out of the stock market is referred to as market timing. If you were unable to successfully predict the market's peak and sell, it is highly unlikely that you'll be any better at predicting its bottom and buying in just before it rises.

Common Sense Is King

Common sense may be the best argument against moving to cash, and selling your stocks after the market tanks means that you bought high and are selling low. That would be the exact opposite of a good investing strategy. While your instincts may be telling you to save what you have left, your instincts are in direct opposition with the most basic tenet of investing. The time to sell was back when your investments were in the black - not when you are deep in the red.

Buy and Hold on Tight.

You were happy to buy when the price was high because you expected it to go higher. Now that it is low, you expect it to fall forever. Look at the markets over time. They have historically gone up. Companies are in business to make money. They have a vested interest in profitability. Investing in equities should be a long-term endeavor, and the long term favors those who stay invested. Serious investors understand that the markets are no place for the faint of heart.

This is also the time to review the strength and weakness of our portfolio and make necessary reshuffling to make it ready for next up move. Don't hesitate to sell the stock of a company in loss if we could find a better opportunity in another one considering the changing business environment.

Read More

Seven product combinations for different financial needs

A variety of ingredients come together to make a complete meal. In personal finance too, it's about getting the mix right. 

Here are seven product combinations for different financial needs for you to consider.

1. Tax Planning

ELSS + PPF + NPS

When choosing products under Section 80C, opt for a mix that will not only help you preserve capital and save tax, but also make your wealth grow. ELSS gives the benefit of superior wealth accretion coupled with tax saving, with a low 3 year lock-in period. PPF offers guaranteed interest income, with a 15 year lock-in.

Based on your risk appetite and time horizon, decide whether to put more in ELSS or PPF. This can be supplemented with Rs 50,000 in NPS under Sec 80CCD (2), which is entirely tax deductible. This scheme is a good vehicle for building a retirement kitty.

Total tax saving: Up to Rs 61,800 for a person in highest tax bracket

2. Post-Retirement Income

SCSS + Bank FD

For those about to retire without the benefit of NPS or government pension, there are several options for generating income. The Senior Citizen Savings Scheme is the ideal fit with an assured return of 9.2% (currently) for 5 years, coupled with a tax break of up to Rs 1.5 lakh under Section 80C. You can invest a maximum of Rs 15 lakh a year in this scheme.

Any surplus should be parked in a 5-year tax-saving fixed deposit offered by banks at interest rates similar to traditional bank FDs. These investments are also eligible for tax deduction under 80C. However, interest earned on both instruments is not tax exempt. The two instruments combined offer retirees a steady stream of income.

The interest on SCSS investments are paid on a quarterly basis, i.e. on the first working days of January, April, July and October.

3. Capital Preservation

Tax-free bonds + Arbitrage funds

Safety of capital is very important yet safe instruments like FDs are not tax-efficient. Investors can instead put their money in a mix of tax-free bonds and arbitrage funds. The former are fixed income instruments issued by government-backed companies that guarantee safety of capital.

The interest rate of 7.3-7.6% is completely tax-free, making them more tax-efficient than FDs. While these come with a tenure of 10-20 years, investors can sell them on exchanges before maturity.

For enhanced liquidity, consider arbitrage funds. They yield returns comparable to debt instruments and are very safe. They are-tax efficient as they are treated as equity funds for taxation.

Tax-free bonds issued in 2013-14 have yielded returns of around 20%, apart from a near double-digit rate of interest for the investor.

4. Wealth Accumulation

Diversified equity funds + Dynamic asset allocation/Balanced funds

To build a corpus for long-term goals like buying a house, building a retirement kitty or funding a child's education, investors must choose products that provide enhanced earning power. This can come in the form of diversified equity funds. Those with a steady cash flow should ideally set up SIPs in 3-4 funds with a proven track record.

Additionally, investors can invest in a balanced fund or dynamic asset allocation fund to ride out the volatility inherent in equity markets. These will automatically shift the investor's money between equity and debt instruments depending on market conditions and introduce stability to the portfolio.

A Rs 10,000 monthly SIP in a multi-cap diversified equity fund starting January 2006 would have generated a corpus of Rs 23.5 lakh today.

5. Emergency Fund

FD sweep-in + Liquid fund

Put in place an emergency fund (ideally amounting to 6 months' expenses) to act as a buffer against unforeseen events. This fund is best created with a combination of a sweep-in account and a liquid or ultra-short term debt fund. Put 3 months' worth of expense in a fixed deposit with a sweep-in facility.

Under the sweep-in, any amount beyond a threshold is automatically moved into a fixed deposit, earning a higher rate of interest. In case of an emergency, the deficit in savings can be met by pulling from the FD. The remaining funds can be put in a liquid fund that not only offers high liquidity but also yields better return on idle savings.

Some funds like Reliance Money Manager Fund provide an ATM card which can be used to withdraw money instantly from the fund any time.

6. Insurance

Pure term plan + Family floater health plan + Accident insurance + Critical illness protection

For complete protection of yourself and your family, it is necessary to look beyond life insurance. A pure term plan will provide financial cover to your family in the event of your death. But this would be of no help if the policyholder meets with an accident and loses a limb. Supplement the term plan with an accident disability cover.

To prevent any medical exigency wiping out your savings, opt for a family floater health plan that can reimburse such expenses. Also consider a critical illness rider to go with a term or health policy to protect against costs associated with diseases like cancer.

A life insurance policy should ideally provide a cover of at least 8-10 times your annual income; health cover is best enhanced through a top-up plan to reduce costs.

7. Payments

Credit cards + Internet banking + e-wallets

Paying with cash is so last decade. Internet banking now allows you to carry out most transactions from home. Pay bills, transfer funds or create a fixed deposit at the click of a mouse. While shopping online or in the mall, make the experience more rewarding by using credit cards or e-wallets smartly. Credit cards allow you to enjoy interest-free credit for up to 50 days provided you pay the card bills on time.

They also offer rewards on every purchase. E-wallets being prepaid accounts help you buy merchandise and transact online without using your debit or credit card. The discounts and cash-back offers on various products make them a rewarding payments solution.

E-wallets allow you to store Rs 10 to Rs 10,000 in your online account at any time.

Read More

5 Retirement Planning Mistakes and How to Fix Them

It's not too late to fix a retirement planning mistake. No one's perfect. If you've messed up your retirement planning, here's how to get back on track.

The average 65-year-old man retiring this year can expect to have another 17 years of living in front of him. For a woman, that number jumps to 20 years. 

That’s a lot of time to travel the world, enjoy hobbies and make memories with family and friends. On the other hand, it can also be a lot of time to stress about rising expenses and dwindling assets.

Fortunately, if you plan correctly, you can minimize the chances of ending up with too many years left and too little money in the bank. However, if you think you’ve made mistakes (or are making mistakes) when it comes to retirement planning, rest assured there is always time to make a correction.

Here are five common retirement planning mistakes and how to do damage control for each one. 

Retirement Planning Mistake: Focusing solely on your rate of return.

The Solution: Create a diversified portfolio.

It makes sense that investors want to maximize their returns, but financial advisors say it’s a mistake to take a narrow view of retirement portfolios.

People tend to chase rates of returns. Rates are not in your control. You need to look at your overall strategy.

Rather than trying to put all your money in specific funds that did well in previous years, it’s better to spread investments over a variety of fund types – such as index, balanced, equity and global – that offer a combined level of risk appropriate for your age and goals. This approach diversifies a retirement fund so the entire portfolio won’t be in jeopardy should one industry or sector run into economic trouble.  

Retirement Planning Mistake: Forgetting about taxes.

The Solution: Have a tax plan for investments and assets.

Taxes are another area that trip up retirement planning. People don’t typically have the same deductions in retirement, so their effective tax rate is going to be higher. They are ending up paying more in taxes even though their lifestyle hasn’t changed.

Minimizing taxes in retirement can be achieved through a combination of strategies. Investing in tax free return bonds is one way to ensure withdrawals are tax free. Meanwhile, distributions from taxable retirement accounts can be timed to coincide with low-income, and therefore low-tax, periods. Owning a home, rather than renting, is another way to potentially lower taxes in retirement.

Retirement Planning Mistake: Thinking the start of retirement marks the end of planning.

The Solution: Review finances and goals every year.

It’s tempting to think of a retirement plan as something that runs on autopilot after leaving the workforce. In reality, a plan only remains relevant if it constantly evolves to adjust for market conditions and a retiree’s lifestyle needs and goals.

Retirement planning is nothing more than a process. Too many people make the mistake of failing to understand their expenses and plan their income accordingly. Medical costs go up, and inflation can have a big impact.

Instead of creating a retirement plan based on general rules of thumb, a better option may be to meet with a financial advisor each year to evaluate income, assets, taxes and market conditions, and make changes as necessary.

Retirement Planning Mistake: Saving too little.

The Solution: Start now and automatically increase contributions with every raise and bonus.

The best time to plant a tree was 20 years ago, but the second best time is today. It’s the same with money. The best way to do damage control for meager savings is to make it a priority going forward.

Many people have too little savings because they dip into retirement funds for other expenses like college. As difficult as these decisions sometimes are, the focus should be on building and protecting your nest egg to last through your retirement years.

Retirement Planning Mistake: Saving too late.

The Solution: Stay in the workforce or look for guaranteed income streams.

For some, it may already be too late to save up a significant amount of money before retirement, but if this describes you, it doesn’t mean you’re out of options. 

One strategy could be to remain in the workforce longer. Doing so not only allows you to save up more money, but you could also increase your Social Security benefits. In fact, staying on the job a few more years may boost your retirement income by one-third or more.

If working isn’t a possibility, start focusing on creating guaranteed income streams. Those could include payments from annuities or the cash value of life insurance policies. A finance professional can provide guidance on each investment and its income potential.

It’s Never Too Late to Make a Change

Although retirement planning mistakes can make it difficult to enjoy the lifestyle you’d like, financial advisors say there is always time to make a positive change. It’s never too late to fix things, even if someone is in their first year of retirement or five years in. There is still time to adjust a retirement plan. 

Read More

Consider These 7 Things Before You Invest

Investing and planning for the future can be a daunting task. There are so many factors to consider in creating and managing your portfolio, and you may find it difficult to find a financial professional you trust for unbiased advice.

Every investment decision has an upside and a downside. Know your risk tolerance before choosing an investment vehicle. Below are seven considerations to help prepare you to make investment decisions and facilitate a conversation with a financial advisor.

What's your goal? There are lots of reasons to sock money away for growth: emergencies, home down payment, education and retirement are only a few examples. Understanding your liquidity needs and investing goals help you decide which investments will provide the funds you need at the right time.

What do your finances look like right now? Do you have three to six months in savings for living expenses? How much debt can you eliminate? Prioritize what you are saving for according to your current financial situation. You want to be able to invest consistently over time, even if the amount is small, but without putting yourself at risk of not having cash when you need it or having to liquidate investments early. Managing your household's cash flow is key.

When do you need money? Some investments are more easily liquidated than others. There are tax implications whenever you sell an asset. High-risk assets are more appropriate for longer time frames. Plan for your cash needs 12 to 18 months in advance so you will be able to make thoughtful, rather than emotional, decisions for any changes to your investment strategy. Market fluctuations are the primary reason investors make bad decisions. Eliminate this by predetermining your liquidity needs.

How do you feel about risk? Every investment decision has an upside and a downside. How certain and how large does the upside have to be to make you comfortable with the downside? Not only does risk tolerance vary for each person, it can vary for the same person over time depending on age, changes in life circumstances, what is happening in the market or in other news. Assess your comfort with risk periodically. We have a unique way to determine your risk by answering questions about your behaviour.

Is your investment portfolio diversified? Investing 101 says not to put all your eggs in one basket. But what does that really mean? There are lots of ways to diversify – by investing in different companies, industry sectors, geographical markets, asset classes (because having all your money in stocks isn't really a diverse portfolio), and different investment time frames. Diversification on many levels provides some insulation from market fluctuations, because what is bad for some markets is good for others, and short-term investments provide opportunities to rebalance. Diversification is much like the pistons of an engine moving up and down, driving a car forward. The more pistons in the engine, the more powerful and smooth the car runs.

How involved do you want to be in managing your investments? You can be super-involved, daily if you want; there are many tools and resources available for active and sophisticated investors. We don't recommend this approach because it is risky and too easy to make emotional decisions that compromise long-term performance. Many people do not have the time or inclination to be quite so involved and may choose more traditional investments or delegate portfolio management to a financial advisor. There are many ways to invest and levels of involvement, but the most important factor is to make sure your investments are in sync with your long-term financial plan.

There is only one sure thing. The market is going to go up! Then it's going to go down. Then it's going to go up! Then down … up … down … and so on. Knowing this, keep your eyes on your plan rather than "panic selling" your assets. It is easy to see the market dropping and want to jump out of your investments; as long as you have a long-term plan, investments aligned with that plan and enough cash set aside for emergencies, you should be just fine even in a market downturn.

Read More