By Rahul Jain
Investors, of late, have been seeking advice on the ideal approach one needs to take, in order to navigate this current phase of volatility. And if you have been listening attentively, it’s hard to miss their emphasis on one of the core tenets of investing — portfolio diversification. While traditional wisdom has always mandated against putting all eggs in one basket, recent turn of events — including nosediving of benchmark indices, followed closely by the closure of six debt mutual funds by a prominent AMC — has brought the need to build a diversified portfolio, to the forefront.
Investors with well-diversified portfolios, spread across asset classes, escaped market mayhem relatively unscathed as opposed to those who preferred to focus between one or two investment assets. Having said that, building a diversified portfolio is all about understanding your financial goals, the different investment avenues and tweaking asset allocation, given age, risk appetite, time horizon and milestones you seek to achieve.
Age-Wise Financial Goals and the Risk They Entail
Before delving deep into how to create a diversified portfolio, it’s vital to understand the goals you want to achieve, at different stages of your life. For example, when you are in your early 20s and have just started your career, the primary goal is to pay off any education loan taken at the earliest.
As you progress in your career, get married and plan a family, your primary goal shifts to providing robust financial protection to your spouse and children and to create a sizable corpus for your children’s higher education and for any emergency, without losing sight of your retirement.
Also, this time when you would usually opt for loans to buy a house or car, amongst others. If you are the sole breadwinner of your family, you need strong financial backup to ensure your family is not left in a lurch, compromising on their lifestyle and goals, in your absence.
40s is when you need to shoulder significant expenses towards your children’s education, pay off loans and build a sizable retirement corpus. A job loss or illness during this period, can jeopardise these critical goals.
By the time you hit your 50s, you would have paid most of your debt and your children would be on the verge of completing their education. However, with active income years reducing, you will need to figure out avenues to supplement your retirement corpus and build a source of income, to ensure stress-free retirement.
Marrying Diversification with Life Goals
Bear in mind that the primary objective of diversification is to reduce risk, have an optimal asset allocation to help you address your life goals with ease and aid in wealth creation. In your early 20s, when your risk appetite is high, a sizable portion of this portfolio should be tilted towards equities.
This is because a longer horizon allows you the flexibility to recover losses. At the same time, avail a pure term protection plan early, as it offers a sizable cover at affordable premiums. Starting early offers significant benefits in the form of reduced premium.
While focusing on wealth creation, children’s higher education and your retirement, bank on equity mutual funds and invest through systematic investment plans (SIPs). Since these goals are long-term in nature and need to factor in inflation, equities are your best bet.
The National Pension System (NPS) is a prudent avenue for building a retirement kitty as it offers tax benefits as well the choice of investing across asset classes, as per risk tolerance. At the same time, for an emergency corpus, equivalent to six months’ expenses, you need to invest in debt products. Bank fixed deposits (FDs) and liquid mutual funds, can help you easily access funds in times of need. Also, review your term plan cover and add to it, if required, to ensure your goals and family’s interest stay kept intact.
As you near a goal, slowly shift from equities to debt, so as to preserve capital erosion due to the vagaries of the stock market. Post-retirement, look to invest a part of your retirement corpus in instruments such as Senior Citizen’s Savings Scheme (SCSS), to earn a steady source of income.
Also, all throughout, make health insurance an integral part of your portfolio, as a medical emergency can derail your finances and thwart all planning and calculation.
Diversification with Progression in Age
Diversification isn’t a one-time exercise. You must periodically review your portfolio and make necessary changes to your existing asset allocation. This becomes all the more important as you age, because your priorities and risk tolerance change. You can follow the 100 minus age thumb rule to zero-in on equity allocation and take the necessary calls.
Also, it’s a fallacy that one should avoid equities, as your grow older. Moderate exposure to this asset class is crucial to augment your retirement kitty and ensure it outlasts you. With the right approach and discipline, you can build a diversified portfolio, that can help you weather all situations, with utmost ease.
(Rahul Jain is the Head of Edelweiss Wealth Management. The views expressed are the author’s own. Financial Express Online does not bear any responsibility for their investment advice. Please consult your investment advisor before investing.)