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Posts Tagged ‘#fixeddeposit’

retirement

India is a saver’s economy. During the working years sacrifices are made for the benefit of the  family and retirement is keenly looked forward to. Advertisements of retirement products paint a picture of a comfortable retirement by the sea and that your life could be one happy vacation. However, in our experience as and when individuals start approaching their retirement they start to dread it. Questions such as are they well prepared for retirement, have they saved enough, and biggest dilemma faced is  where to invest this large sum of money in order to get a regular cash flow to become financially independent. What do you do to actually turn your retirement into one big happy vacation?

Effective cash flow management is the key to a successful retirement. The magic lies in creating a strategy that generates a regular inflation adjusted income for you and your surviving spouse, lasts you a life time and offers liquidity.

Strategy 1: Create a regular income stream

Every individual wants to be financially self sufficient. In the absence of a joint family, being financially independent is not a desire but a must have in your golden years. If you need money for your day to day expenses, then getting a payout once in 3 or 6 months doesn’t help. A lot of retirees rely on dividend income either from stocks or their mutual funds. This is a huge mistake which becomes evident with time when the steady income from salary has stopped completely. Receiving a dividend from your investments when you have a  salary feels great because it provides an additional income. What most people don’t realize is that the dividend is actually paid out at irregular intervals and the amount is also inconsistent. Similarly, the interest payout from your corporate FD might be on a quarterly basis or twice a year and now locked in until maturity.

How to execute this strategy?

To be financially independent at all times you have to ensure you have created multiple income streams and timed the out flow to suit your requirement. If you need to pay salaries and bills towards the start of the month, then set the payout around that time. Opt for monthly interest payout from FDs and set up a Systematic Withdrawal Plan (SWP) from your Mutual Fund investments on a monthly or bimonthly basis. This way you will know exactly when your next payout will happen and manage your expenses and bill settlements better. You will also be more in control of your finances rather than being helpless because of a bad strategy which can now not be easily changed.

Strategy 2: Generate an inflation adjusted income

Thanks to the increase in programs aimed towards investor education, many individuals understand and are aware of the impact of inflation on their income and wealth. The income that you receive should be able to beat inflation and help you live your life comfortably and on your terms. The current consumer inflation rate is at 4.17% however, it is essential to consider your lifestyle inflation which rises faster than food inflation. It would be wise to adjust your income against an inflation of 7-8%. The income that would have sufficed today will not manage to cover the same expenses next year due to inflation. On a yearly basis, you will notice that your bills are rising, so will the salary of your staff.

How to execute this strategy?

The interest income coming from your Fixed Deposits will not be able to implement this strategy since the returns are fixed and the amount is locked until maturity. You would not have the option to choose a higher payout even at the cost of wealth depletion.

This strategy can only to executed through a Systematic withdrawal Plan (SWP). With an SWP you have the option to increase or decrease the amount that is withdrawn from the investment. For eg. If your cash flow requirement is Rs 25000/month for the 1st year, then with a Systematic withdrawal Plan you have the flexibility to adjust the payout by increasing it to Rs 27000/month which would be inflation adjusted. This way you can increase the payout from your debt funds using SWP strategy.

Strategy 3: Avoid excess liquidity as a part of contingency planning

Most senior citizens seek comfort in keeping large amounts of cash lying in their bank accounts. This they say is for emergencies and contingencies in case they need a lot of cash all of a sudden. Assume you have Rs 50 lakhs for your retirement corpus out of which if  5-10 lakhs are kept in your bank account for comfort then this is a very expensive way to deal with emergencies. With high inflation and increasing life expectancy, one can not afford to keep 10-20% of their wealth idle. At your age you will need every cent and penny to work as hard as it can.

How to manage liquidity?

If you have parked a large sum in your bank account, the reason has  less to do with emergencies and more to do with liquidity. With most of your money parked in illiquid assets like bonds, fixed deposits or real estate how do you get your money if a need arises. Liquid debt mutual funds are a perfect option since they provide both higher returns and offer liquidity. Liquid funds can generate a return of up to 6.5% and are highly liquid as the name suggests. You can redeem your units from a liquid any time and encash your money. You will receive your money in your bank account the next day.

Strategy 4: Plan your cash flow to avoid wealth depletion during your lifetime

With the advancement in medical sciences the average life expectancy in India has risen to be around 85 years. There is also a risk that both you and your spouse might outlive your life expectancy and live longer than what you had accounted for. This poses a threat to your financial independence as there is a possibility of your wealth getting depleted while you both are still alive. It therefore becomes important to invest your money in such a way that your portfolio can provide a steady cash flow not just for you but for your surviving spouse too and a little over your assumed life expectancy.

How to make this strategy work without compromising on your dreams?

As a retired person wealth preservation is of utmost importance however, if inflation and longevity poses a threat to your wealth and goals then you have to go beyond your comfort zone and add more growth assets in your portfolio. However, if there is a gap between the income that your portfolio can generate and your needs, then instead of taking excess equity exposure it is advisable to taper your expenses instead.

An expert financial planner will be able to execute and implement this strategy for you by creating a realistic portfolio which meets your income expectation and risk profile. A combination of debt and equity mutual funds should do the magic.

The secret to a successful retirement is a little bit of planning which can go a long way to turn your retirement into a happy vacation.

 

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FMP

Fixed Maturity Plans are a category of debt mutual funds that are currently attracting the attention of Ultra HNI and retail investors alike. With the debt market looking fragile and the 10 year Gsec yield on a back breaking spree, are FMPs the next alternative investment solutions that can save the investors from interest rate risk? Are FMPs for you, read to find out.

Fixed Maturity Plan or FMPs are close ended debt mutual funds that have a fixed maturity period. The AMC launches a New Fund Offer (NFO) and inviting subscription to scheme. Unlike an open ended scheme which stays open for subscription all the time, a FMP remains open for a limited period. The NFO will have a launch date and a closing date till when an investor can subscribe to the fund and after it’s maturity the fund ceases to exist. In the interim, an investor can trade the FMP on the stock exchange.


Where do FMPs invest and what are the indicative returns?

Being a debt fund, FMPs invest in debt securities like corporate and government of India (GOI) bonds, Non Convertible Debentures (NCD), and liquid instruments like T-bills, Repo, Corporate Deposits (CD) and Commercial Papers (CP), based on the market yield and the scheme’s investment objective, an FMP could invest in AAA to A+ rated securities with varying credit risk.

With the 10 year G-sec yields having crossed 7.9% mark, the bond yields too have surged. Now a portfolio of high quality of AAA rated securities can easily give a return in the range of 7.7-8.4% thus making them very attractive.


What is the maturity of an FMP?

The maturity of an FMP is similar to the maturity of its underlying assets. Since the FMP exists for a fixed period which is defined during the subscription of the NFO, it invests in debt securities with similar maturities such that they mature on or before it’s maturity date.

Eg: If the Fund has the maturity period of 1110 days then it will pick instruments that will mature on or before 3 years.

The fund manager of a close ended FMP follows a passive investment strategy where in they buy and then hold securities until they mature. Therefore there is minimum churning unlike in a open ended fund where the fund manager churns the portfolio more regularly based on his strategy and market outlook.

This helps an FMP keep its expenses lower.


How are they taxed?

Most FMPs have a maturity of 3 or 5 years. Being a debt fund, the biggest advantage of investing in a FMP is the indexation benefit that an investor receives after completing 3 years.

Although it is similar to a Fixed Deposit, the tax benefit that an investor earns makes an FMP triumph over any FD or NCDs.

Assume you had invested Rs 10 lakhs in a FD and FMP with the maturity of 5 years. Even though return generated by an FMP is higher, to level the playing field lets consider both had generated a return of 8%.

FDvs FMP

As you can see from the table above, you can potentially save Rs 1 Lakh in taxes by investing in an FMP. Even for an investor in 20% tax bracket, the post tax corpus earned from an FD would be significantly higher than a bank FD.


What are the drawbacks of an FMP?

Being a close ended fund an investor can’t redeem the units until the FMP matures. However, the investor does have an option of early exit through a stock exchange. For this the SEBI has mandated the FMPs to be listed on the stock exchange. The problem is that there is little demand for them in the secondary market and even when there is a buyer the price offered is lower than its NAV.

So an investor must subscribe to an FMP with an intention to keep their money locked-in for the duration of the fund and with the knowledge that this money would not be needed in the interim.

Also the indexation benefit can be enjoyed only if the debt fund investment has been held for 3 years, so it would be ideal to pick FMP with a maturity of at least 1100 days which is just a few days over 3 years.

 

Who should invest in a FMP?

Unlike a debt fund, an FMP is insulated from the interest rate volatility since the fund manager buys and holds the securities until maturity. Thus the returns of the FMP are less impacted by the price fluctuations triggered by the swinging interest rates of the market.

Therefore, HNI, ultra HNI in the highest tax bracket, retail investors and even senior citizens can benefit from investing in an FMP as the yields offered are competitive and the capital gains are taxed with indexation benefit making FMPs a very attractive investment solution in the tumultuous and uncertain interest rate scenario.

 

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