Millennials have really turned the rules upside down, especially when it comes to investing. We’ve had a record number of demat accounts opened over the past two years. A lot of these were first-time millennial investors who were ready to take the plunge into the stock market. Internationally, we’ve seen investor movements like Gamestop and Memecoins that were driven essentially by millennial interest.
There’s no doubt that this generation has come a long way from fixed deposits and gold. But simply ‘buying the dip’ is not the be-all and end-all of investing. Good financial planning calls for addressing your current finances in a way that benefits you in the long term while also taking care of the short term. So, for a generation that likes to do things its own way, here are some guardrails, not rules, to financial planning.
Building a risk appetite
Anyone invested in stocks before and during the lockdown of March 2020 must have seen their investments crumble to pieces. It might have seemed like a good idea at the time to cut your losses and sell. And those who held on and continued investing saw returns over the year like never before.
‘Buy low and sell high’ is a piece of advice that gets thrown around quite often. And while it does sound nice, it’s easier said than done. Volatility is simply a part of how markets work and it is unpredictable by nature. As any seasoned investor will tell you, timing the market is next to impossible. So, it’s better to stick to a steady investment plan rather than getting caught in decision paralysis.
Millennials have a good 20-30 years of earning capacity ahead of them. So, if there ever was a time to take on some risk, then this is it. A healthy risk appetite along with some solid research will help you navigate choppy waters. But it’s not just about investing in equity. Building a healthy risk appetite involves a bit more financial discipline.
Addressing your finances
To take a risk, you should first be in a position to take a risk. What that means is, you don’t want to be dabbling too much in the stock market when you have loans or other financial liabilities to pay off. That being said, it also doesn’t mean that you hold off from investing altogether. You must find a balance between the two.
Learning to manage debt and liabilities or other financial obligations during the initial years of your career is an important part of building a credible portfolio. Paying off a loan calls for some amount of discipline and probably even sacrifice. One way is to optimise your planned expenditures to prioritise clearing off any debt.
Once you are on this path, even the process of regularly clearing off your debts can provide a sense of financial security. If you don’t have any loans or obligations, then focus on making a habit of saving money. Make use of online tools to track expenditures, income and budget accordingly. This should be the foundation of your risk-taking capacity, whether you identify as an aggressive, moderate or conservative investor.
Dealing with emergencies
Financial security is not simply about having a lot of money stashed away. It is the ability to deal with any financial exigency, or in short, resilience. It is as much a mindset as it is about having adequate liquid assets to fall back on when the going gets tough. And since it forms the bedrock of financial security, building an emergency fund should be a priority in any financial plan.
There are no fixed rules when it comes to emergency funds, it all depends on what you define as being financially secure. For some, it might be about getting by with the bare necessities. For others, it could be about maintaining a certain lifestyle. You might have heard that an emergency fund should ideally cover at least three months’ worth of expenses. But this can be stretched to six months or even a year or two, depending on how you perceive emergencies and what makes you feel secure.
Given the nature of this particular fund, it’s best to stay away from risky instruments. Highly liquid and safe investments such as short duration debt funds are one option to build an emergency fund. And although not an investment, one cannot talk about emergencies without mentioning insurance. A sudden and hefty medical bill can take years off your investment plans. Consider getting insured as part of building up to a risk-taking position, earlier the better.
Building a credible portfolio
Any millennial’s portfolio should have substantial exposure to equity. But equity exposure can come in many different forms. If you’re just getting started, there’s no need to get overwhelmed with the information overload. Index mutual funds have practically become a no-brainer today and should form the core part of your equity investments. The Indian market has never lost your money over a ten-year horizon if you invested in the broad market index.
That being said, it is important to diversify your portfolio. Investing in debt mutual funds and other assets like gold or bonds can balance the risk involved in equity exposure. Even within equity, you can diversify your allocation across focused funds and market sectors to avoid concentration risk. And as your portfolio grows, you can consider geographical diversification by investing in foreign stocks.
All of this will be underpinned by your understanding of risk and return. It’s not as simple as high-risk-high-return. You must take into account your overall financial situation, your debts and obligations, your future goals and your perception of the external environment. Some amount of introspection would certainly do no harm in helping you understand where you lie on the risk-return spectrum. This will also help you manage your emotions in times of high market volatility.
And don’t forget about taxes
Any financial planning is incomplete without the mention of taxes. They can affect returns in a big way but optimising your investments can reduce the impact. The tax system is structured to prioritise long term investments. From the three-year lock-in period of equity linked saving schemes (ELSS) to the ‘exit when you turn 60’ policy of the National Pension System (NPS), there are multiple instruments to save tax. Each serves a different purpose and comes with varying degrees of tax efficiency.
But while making full use of section 80C tax deductions, remember to do this in a way that benefits your long term goals. When you’re at the end of the financial year, it can be tempting to invest purely to save on your tax outgo. But doing so can adversely impact another part of your portfolio. So, it’s best to take a comprehensive view when optimising your investments for taxes.
Hopefully, this has given you a framework on how to think about finances as opposed to setting the rules of the game in stone. Taking the points discussed here into consideration should help you make more informed financial decisions. And along with steady and regular investments through SIPs, they should help tide you through the long term process of wealth creation.
