Three steps to ensure you have enough money when you need it

In fact, over the past three years that the annual survey has been conducted, the share of high savers (people who save more than 40% of their take-home pay) has been declining, and the percentage of people who are not prepared for emergencies has risen sharply. In addition, a growing majority of respondents are concerned about achieving their financial goals.

Indians are financially stressed and this does not bode well for the economy.

As people save, insure and invest, they are unsure of how to assess the right amount and instrument. Take the case of an emergency fund: one depends on what is in the savings account. As loans are readily available, people try to maximize returns by investing these funds in stocks, not realizing the impact that high-cost loans can have on their finances. A similar thought process plays out in the case of life insurance, leading people to buy investment-linked insurance policies rather than focusing on life coverage through a term plan.

The three steps

Here’s how individuals can address the top two financial stressors highlighted in the report and move from being underinsured and underinvested to having enough capital to weather uncertainties and achieve financial goals.

To start, set aside three to six months of expenses in a fixed-term deposit. It is the most accessible investment in times of need.

Take out an external health insurance in addition to your employer’s cover to ensure continued coverage in case of job loss. Arogya Sanjeevani would suffice as an additional cover. It is a standard health cover offered by all insurance companies.

An emergency fund can only help to a certain extent. Given that the working environment is changing and financial goals are becoming more and more expensive, it is necessary to build a good foundation by saving at least 30-40% of the net salary. This can only be achieved by partially reducing lifestyle expenses and limiting monthly payments to 30% of the salary.

A person with large savings has investments that generate compound interest, while a person with large loans has compound interest. For example, A and B earn ₹10 lakh per annum each, and both spend 30% on expenses. A invests 40% of the net salary and allocates 30% towards loans. B invests 20% of the salary and allocates 50% towards loan repayment. Assuming a return on investment (ROI) of 10% per annum and loan interest of 9% per annum, at the end of 20 years, net of expenses and EMIs, A will have ₹1.35 crores while B’s net worth would be negative ₹32 lakh. It is obvious that saving money today may be painful, but it will make life more beautiful tomorrow.

Investing in stocks

The benefits of starting to invest early are well known. Increasing these investments by 10% every year has a snowball effect and will help build a substantially larger corpus. If A invests ₹15,000 every month in a systematic investment plan and assuming a return on investment of 12%, after 30 years, the corpus would be ₹4.62 crores. If A increases the SIP by 10% every year, the corpus at the end of 30 years would be ₹11.97 crore.

It is becoming increasingly imperative to have a high equity allocation, especially for long-term financial goals. Despite all the hype around stocks, the allocation percentage at the household level is less than 10%. An equity allocation of at least 30-40% is a must to be able to achieve the large target values. Let us look at an example: ₹25,000 invested every month for 25 years will grow to ₹2 crore at 7% against ₹3.35 crores at 10% per annum The profitability factor can only come from stocks, provided they are invested in the right way through mutual funds and not by trading or buying stocks randomly. A simple strategy would be to invest in a Nifty 50 index fund and hold it for a minimum of 7-10 years.

Investing 40% of your net salary, increasing investments regularly and having a high equity allocation can go a long way in building a good corpus to tide over uncertain times as well as achieving financial goals.