May 18, 2024
Equity

Are you retired or going to retire soon? A guide to asset allocation

Nirav Karkera, Head of Research, Fisdom, says if you have less than five years to retire, you should definitely build a corpus utilising slightly equity-oriented products but not very heavily equity-oriented and even within equity, do not go towards the farther end of the markets that are midcaps or smallcaps; stick to less volatile largecaps and blue chips.”

If somebody is already a senior citizen, what should they keep in mind while putting fresh money into different asset classes that are available? Also, what are the key points they need to be noting given the requirements in times ahead?
For a senior citizen, life is not very different from any other investor irrespective of whether a senior citizen or not and the basics apply to them as well. So, the number one point that most people do not really recognise is that investing decisions do not start with finding the right product or the most exciting investment opportunity, but with assessing your own self, your own financial condition, your risk profile, your objectives and your appetite for volatility or risk.

So, even for a senior citizen, the starting point is that they themselves assess their personal profile as investors and their financial objectives. Now quite often than not, it is assumed that a senior citizen would have a relatively low risk appetite and would be investing for very short terms. However, over the years of experience, there are a few shifts that we are witnessing and this now entails that senior citizens are also now developing an appetite for risk, especially the senior citizens who are financially well off and want to invest towards building a legacy for the next generation.

There are also senior citizens who are relatively healthier than the previous generations at the same age, with the life expectancy going higher, their ability to work for longer also goes up. So, though they are senior citizens, they are still in a physical and mental state to continue earning more income to fund their lifestyle needs. It finally boils down to what kind of a senior citizen you are or at the very heart of it, what kind of an investor you are and what are you seeking from your investment.

The most important asset classes out there are the primary ones – equity, fixed income and gold. For this discussion and for brevity’s sake, we can safely put this aside that gold remains a strategic hedge and there needs to be some component of gold as a hedge against inflation but there will be a lot of focus on equity and fixed income opportunities. For the case where I spoke about senior citizens who are well off and are not really banking on these investments to fund their retirement lifestyle or to fund their daily expenses, a higher proportion of equity is still a good idea.

Apart from that, there is also a different category of senior citizens looking for a periodic payout or a lumpy payout at certain intervals. It could be for charity, for pilgrimage, for travel, for just general one-time usage or lump sum usage in a year or so. For those senior citizens, a hybrid sort of a format works really well where the portfolio focuses on capital appreciation while the rest focuses on maintaining linear appreciation and growth that can fund their one-time needs or lump sum needs and at the other end of the spectrum. We have senior citizens who are really dependent on their investment portfolio to fund their lifestyle and their regular expenses and as logical as it is for someone relying on a portfolio to fund routine expenses, let us say at a frequency as low as monthly a higher proportion of fixed income is warranted. These are the primary asset classes where the suitability maps to these kinds of senior citizens.

If somebody is actually nearing the age of being a senior citizen, being above 60 years of age, how should they plan to get a minimum amount as a withdrawal in terms of catering to their daily needs or monthly needs if they are not getting any pension? What are some of the options that are available? Also, do these schemes offer any additional interest for senior citizens like we see in the case of FDs?
Let us broadly classify this into two cases. One, people who are nearing retirement and are yet to be a senior citizen. In the second case a person is already a senior citizen/retired, we are using them interchangeably but let us assume that is the case.

So, in the first case, where retirement is a few years out from here, an investor has the ability to build a corpus before he starts withdrawing from the corpus. Now to simplify it, think of it as a runway where you keep stashing some money aside and start building a corpus or a sum or an amount, a kitty, that is meant to fund the rest of your retirement. So, if you have some years out and if the years are less than five years out from now, you would definitely want to build a corpus utilising slightly equity-oriented products but not very heavily equity-oriented and even within equity you do not want to go towards the farther end of the markets that are midcaps or smallcaps, you want to stick to less volatile largecaps and blue chips.

So, we are talking about a product mix which sticks towards a multi-cap sort of a portfolio for a slightly more aggressive investor or else largely a mix of hybrid mutual funds. This would include dynamic asset allocation funds or your balanced funds as more popularly known as this and large cap funds at the same time. Mutual funds are a great vehicle for such investors to invest till the time they reach retirement. As you come closer to retirement at least a year or a year-and-a-half before that, you start gliding out of the risky assets and you start de-risking your portfolio.

So, probably a year or two before your targeted retirement, you start switching towards debt oriented mutual funds and towards more hybrid oriented mutual funds by reducing your equity exposure, so that you are not really exposed to the equity markets at the time you retire where you would be requiring money on a constant basis.

Please recognise that equity is a volatile asset class and the more exposed you are to it, the more vulnerable is your portfolio in terms of having the ability to give payouts from net earnings. So, once you do that, once you glide out and move into a fixed income portfolio, then you start triggering a SWP, which is a systematic withdrawal plan. Over here, you can specify a fixed amount that you wish to withdraw and a fixed periodicity.

For instance, you would like to withdraw Rs 10,000 every month is something you can prescribe and you can automate it. So, every month on a certain fixed date, you will keep receiving that money. The only downside here is you will receive this money irrespective of the current value of your investment. So, if you have invested an X amount and it has grown by 20%, you will still receive only 10% and even if it has declined by 20%, you will still receive 10,000. So, this is one thing that investors must be cognizant about.

In the second case where an investor is already retired and needs immediate annuity, predictability is highly important. One needs to have clarity in what kind of returns he can generate and the most popular ones are traditional fixed income instruments and debt mutual funds. Within traditional fixed deposits, probably bank fixed deposits are the most popular asset wherein senior citizens also get incremental returns or incremental interest by virtue of being a senior citizen. This is absent in a mutual fund SWP or a systematic withdrawal plan.

Mutual funds offer no extra returns just by virtue of being a senior citizen. But in banks’ fixed deposits, most of them offer extra rates of interest for senior citizens. In fact, there are various small savings schemes which tend to offer very good rates of returns to senior citizens. So, people who are already retired or have a couple of years to retire and require immediate annuity or immediate payout starting today, running an SWP into a debt mutual fund or investing in a fixed deposit either a bank fixed deposit or a corporate fixed deposit with a fixed payout, on monthly or quarterly basis, is the safest bet while reducing your risk and ensuring you continue to generate the income you need to fund your lifestyle.

In my experience, a lot of senior citizens have their money parked in real estate, in some or other fashion. But apart from that, most of their investment lies in FDs or rather gold investments. If somebody who is already in that bracket and are receiving a monthly income in terms of rental income, as well as pension and are looking to invest that money, what are some of the safe options that they can look forward to in order to diversify their wealth?

Considering a moderate risk appetite and the fact that your regular expenses are consistently being funded and you are not heavily dependent on the earnings that you are generating from these assets, hybrid mutual funds offer great options. So orient a large part of your portfolio towards hybrid mutual funds, dynamic asset allocation funds, which manage your debt and equity exposure by optimizing for market cycles and maintain a small contingency reserve. It could be anywhere between 10% to 30%, 40%, depending on your financial dependency on this investment, into far safer and more liquid instruments like the conventional, traditional bank fixed deposits or corporate fixed deposits, highly rated and selectively corporate fixed deposits, or debt mutual funds, a combination of these.

So a combination of these two products should hold you in good stead. The idea is to keep it really, really simple. I realize many senior citizens try to complicate life a whole lot more than required in the quest to optimize for the returns and rightly so and there is an urge to do so, considering you really need to depend on that kind of money. But one very important thing that people who are senior citizens/retired and dependent on investments for their lifestyle is to remember the pecking order or the prioritization order while selecting any investment instrument.

Number one factor is to prioritize for liquidity, ensure your money is not stuck somewhere where you cannot take your money out. Number two is the risk element, ensure that you’re not in a highly risky asset, ensure that risk is minimized and in line with your appetite. And third is return potential. So quite often than not, people tend to do the same in a completely reverse order, they optimize for returns first, then risk, and then check for liquidity. But that is where life gets slightly troublesome, because you are at a stage in life where you cannot really generate additional income to fund your current lifestyle expenses. So liquidity takes precedence over risk and risk, other market risk, and market risk takes precedence over the return proposition.

For every investor that depends on a lot of factors like how they are going to be allocating their money into different asset classes. But on a general basis,what should be the allocation of their money in terms of different asset classes or what is the ideal portfolio of a senior citizens?

For an ideal senior citizen who will be depending on his investments for a longer time and starting almost in the near term,an inclination towards fixed income instruments would really help. So, probably a 60-40 or a 70-30 portfolio wherein 60 or 70% is skewed in favour of fixed income instruments. Within fixed income instruments, you could use a combination of fixed deposits that will be your contingency money, which would be around 20% odd. Then you can invest an additional 30 to 40% odd into a combination of debt mutual funds and either corporate fixed deposits or government securities or government securities oriented mutual funds, either ways.

So a combination of these would comprise your fixed income allocation. And on the equity side, it is best to steer towards blue chip largecap funds or largecap index funds or else, if you have a slight appetite and have some financial backing or other inflows, you can move up to flexi-cap or multi-cap funds, which ensure that even within equity, your risk is optimized on an ongoing basis. So your ideal portfolio will look 70-30 in favour of fixed income and then spread it across subcategories that primarily focus on adjusting for risk.

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