A reader says, “Please make a video/article on how an investor should reach an Equity: Debt asset allocation of 60:40 if most of his/her investments are in debt already (almost 90% in debt), especially for investors between 35 to 40 age group”.
“I understand that from your rebalancing articles, you mentioned that in such scenarios, the only option is to invest in equity aggressively without rebalancing. But wanted to have your detailed opinion on this. Are there any other alternatives that you can suggest? I think this will surely help many investors. Please make a video/article on this”.
This is a serious problem many investors face, particularly those who started earning early in their 20s. In my case, I started earning and investing for retirement only in my early 30s. Like many others, I, too, had a debt-heavy portfolio for several years (close to a decade).
Only in the last 5-6 years have I managed to hit the 60% equity and 40% fixed income mark. So, for someone who started earning in the early 20s with regular contributions to EPF and no contribution to equity, it would take a lifetime to correct the asset allocation.
One cannot wait that long to reach 50% to 60% equity because the portfolio de-risking would need to start in the last decade before retirement. More importantly, a person so used to seeing nice fixed-income returns would not be able to handle the volatility of equity.
It is easy to say “invest aggressively”. During a bull run, it would seem like an excellent idea. However, come a crash (and it will) and, worse, a sideways market because of political or economic instability for 5-6 years.
So what can be done?
- Be realistic. Lower your equity allocation target to 35% or 40% initially,
- Do a proper goal-planning exercise. Determine the retirement corpus required.
- You can use our goal-based Portfolio Review/Audit Tool to adjust your asset allocation and investment amount required to determine how close you reach your retirement corpus.
- Keep in mind that at the time of retirement, your equity corpus should not be more than 30% to 35%.
- Doubling equity exposure should take at least 2-3 years, depending on the amount you can invest and your risk awareness (not risk appetite!). Tripling equity exposure should take about 4-5 years in total. Market conditions will also play a big role.
- Assuming it would take five years to go from 10% to 30% equity, how much more time do you have to keep increasing equity to 40% or even 50%? Again, remember that it is inadvisable to keep increasing equity allocation in the last decade before retirement. So any increase is best done before that.
- You can use the above-mentioned portfolio audit tool to adjust the asset allocation in future years with reasonable return expectations.
- Finally, remember that a high investment amount may be necessary to account for the lower equity exposure. If you cannot afford to invest that much, you will have to change the assumptions made in the retirement plan – lower expenses, inflation estimates, and postpone retirement. This would imply expecting a lower standard of lifestyle in retirement.
- No matter what you choose, never upgrade your lifestyle unnecessarily in future.
What to invest in equity? Avoid mid cap and small cap funds. While a Sensex or Nifty index fund would obviously be ideal, those desirous of lower return volatility can consider a multi-asset mutual fund. For recommendations, see Plumbline: Handpicked mutual funds.
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Dr M. Pattabiraman(PhD) is the founder, managing editor and primary author of freefincal. He is an associate professor at the Indian Institute of Technology, Madras. He has over ten years of experience publishing news analysis, research and financial product development. Connect with him via Twitter or Linkedin, or YouTube. Pattabiraman has co-authored three print books: (1) You can be rich too with goal-based investing (CNBC TV18) for DIY investors. (2) Gamechanger for young earners. (3) Chinchu Gets a Superpower! for kids. He has also written seven other free e-books on various money management topics. He is a patron and co-founder of “Fee-only India,” an organisation promoting unbiased, commission-free investment advice.
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