Why your parents’ investing style is not the best for you
In today’s world, we cannot adopt the same investment strategies as our parents did for various reasons
My father never did any financial planning, so, why should I? These were the words uttered to me by my first customer upon seeing our company’s sign board more than a decade ago.
He went on to describe how his father had successfully educated him and his two siblings, got his sisters married, and had bought his own house. Yet, in all of this, he had never once observed his father sit down with complicated spreadsheets, doing a ‘financial plan.’ While I commended his father on providing well for his family, I asked him whether his father was financially dependent on him now. My would-be client answered in the affirmative and said that he sends money every month for expenses. This led me to ask whether he was confident his children would look after his financial needs when he was his father’s age? As expected, his face drew a blank.
We spent the next few hours creating his personalized financial plan, which laid out the roadmap for how he could be financially independent not just till he reached the important milestones in his life, but until the end of his and his spouse’s lifetimes. Once we had mapped the important milestones and created an investment plan to reach them comfortably, I suggested that the rest of his earnings could be used to upgrade his lifestyle. And, just like that, the lifestyle that he thought was beyond his reach flipped from being a distant dream to one within touching distance.
One of the common dilemmas of the previous generation was the uncertainty of how much to spend or save. Without a plan or a clear view of the future, they were never sure whether they would be able to meet their life goals comfortably. Therefore, they often lived far more frugally than they needed to.
I urge my clients to think about financial independence as the most important goal, because I am not sure the current generation can assume that their children will willingly shoulder their financial burdens. If a plan were created that charted a course of financial independence, they would have a steady income stream that could last them the rest of their lives, rather than being dependent on their children.
In the case of my client’s father, even though he had a physical asset in the form of a house, he had practically no financial assets or liquidity. He had spent all this retirement benefits and his LIC proceeds towards his daughters’ weddings, leaving him financially vulnerable in the later years, when he should have enjoyed the fruits of his working years.
We live in an era that is very different from that of our parents and grandparents. It is a far more complex environment, where our markets are interlinked with the rest of the world. Investment decisions need to be made carefully and in line with our goals and risk appetite. In today’s world, we cannot adopt the same investment strategies as our parents did, for the following reasons:
1. Low fixed income returns: Our parents used to live in a time where risk-free assets such as fixed deposits yielded 13-15% interest. Today’s interest rates are a measly 5-7%, and will continue to fall as our economy develops. Hence, we must look at options such as equity along with debt, where the combined return of the portfolio beats inflation comfortably. Being risk averse could be one of the biggest risks to financial independence.
2. Life expectancy: On an average, we will live longer than our parents. The average lifespan is expected to increase by one year every three years. The previous generation retired at 58 and lived till about 75 years on an average, and hence needed to plan for only 15-20 years of retirement. Today, with all the medical advancements, we can expect to live till even 100. Hence, we need to plan for our money to stretch for nearly 40 years after retirement. Increasingly, my clients want me to plan for a 40s retirement because employment is no longer guaranteed till 58. This leaves me with 20 years of earning and 45 years of retirement. Dying young or living too long are both problematic. If we haven’t planned for such possibilities, we will either grapple with ‘too less money at the end of your life’ or ‘too much life at the end of your money.’
3. Financial products are more complex today: The most common investment avenues then were private or government deposits, LIC policies, gold, and property. Stocks were for the adventurous few. Today, the plethora of financial instruments is mind boggling. Choosing a mutual fund or life insurance policy involves hours of scrutiny to determine features and risks, including the complicated fine print that comes along with it.
I still see the tendency among young investors to follow the advice of well-meaning but misinformed parents. In today’s world, you need an active financial strategy for the future, which folds in expense management, goal planning, retirement planning, risk management and estate planning. You cannot assume wealth will be created automatically, through a passive strategy. Only when you are aware of the future can you plan for the worst, else you may well end up making the same mistakes as your parents, where investments were conservative, inadequately diversified, heavily weighted towards physical assets such as gold and real estate, or invested in low-yielding instruments such as endowment plans.
We recently met my old client for his financial review. He had been our customer for nearly the entire length of our company’s 12-year journey. He is happily retired now, financially secure, and living his long-standing dream of sailing across the world. I asked him to recall what he had read on our sign board the first day he walked into our office. He said, "PeakAlpha Investments, Financial Planners and Dream Managers. It all makes perfect sense now."
My client’s father may have missed the boat on financial independence, but we’re delighted that his financial plan is sailing on smooth waters.
Priya Sunder is director and co-founder of PeakAlpha Investments.