Make Your Investments More Effective

It is heartening to see an increasing number of Indian investors adopting a disciplined approach through SIP for investing in mutual funds. While a disciplined investment process can make a significant contribution to one’s wealth creation process, it is important to plan investments well and avoid haphazard decisions during the defined time horizon. Here are a few aspects that need to be handled well to make your SIPs more effective.

1) Consider inflation while setting target for long-term goals. Long-term goals like retirement planning and children’s education would require you to create a large corpus. Hence, you must set the target for each one of these after considering the impact of inflation and work out the investment amount based on an assumed annualised rate of return expected from an asset mix ascertained for that goal. 

For example, if the parents of a new born child start planning for higher education now, assuming education inflation at 11 per cent, the current cost of ₹25 lakhs would escalate to ₹1.64 crore after 18 years. To achieve this target, they will have to invest ₹22,000 per month through SIP in equity funds. As is evident, starting your long-term investment process without considering inflation can create a huge gap in what you may be able to accumulate vis-à-vis what would be required for that goal.

2) Increase SIP amount every year as your income rises. There are proven advantages of starting investments through SIP early as you benefit from the power of compounding and get the best out of the true potential of an asset class like equity. However, it is important to understand that even your carefully planned target amount would need to be reset as your income rises over the years. Therefore, you must increase your SIP amount to maintain discipline in your savings and investment process as well as achieve the revised target.

This discipline can make a huge difference to what you get to accumulate over the longer term. For example, if you invest ₹20,000 per month in equity funds, you can expect to build a corpus of around ₹2 crore after 20 years, at an assumed annualised return of 12 per cent. However, if you increase your SIP amount by 10 per cent every year, you can expect to build a corpus of around ₹4 crore after the same duration.

3) Avoid investing in too many funds. It is quite common to see investors investing small amounts in multiple funds, making their portfolios unwieldy. Needless to say, a situation like this does more harm to your portfolio than good as the portfolio can suffer from overlap and underperformance. If you choose your funds carefully for each of your goals, a few funds can do the job of providing adequate diversification in terms of sector and stocks allocation as well as segment-wise allocation. Some of the categories like flexi-cap, Large-Cap and Mid-Cap and multi-cap funds can be quite effective for those who may not be in a position to decide allocation themselves and also find it difficult to realign the portfolio in a tax-efficient manner. 

4) Don’t interrupt your investment process when faced with market volatility. While equity as an asset class helps you earn positive real rate of return i.e. gross returns minus inflation minus taxes, the bouts of volatility can put your patience and perseverance to test. Having a clearly defined time horizon, appropriate asset allocation and keeping focus on your goals helps you tackle the turbulence in the stock market. In other words, if you begin your investment process without planning your investments, you would find it difficult to stay invested when faced with the market vagaries. Needless to say, abandoning your investment process and changing your asset allocation abruptly can expose you to the challenges that can jeopardise your financial future.