As a kid, you would have experienced your teachers allocating you different tasks to finish the syllabus before exams, such as revising a few chapters each day. You used to put time and effort into finishing those tasks and learning the subjects to achieve good grades. It is an example of setting goals and working towards achieving them.
This is a common practice in many areas of our life, but one area where it holds the most significance is investments. It is called goal-based investing when you create financial goals and work towards achieving them.
Well, this is just the tip of the iceberg. Read this article to learn the ins and outs of goal-based investing and financial planning.
What Is Goal-Based Investing?
Goal-based investing helps you achieve your financial targets per your expectation and drives you towards action that leads to it. It is common to have wishes and desires as humans, but if it doesn’t meet with actions, there would be no realization. To avoid that for one of the crucial aspects of your life–your finances, goal-based financial planning is important.
Remember your parents save their life savings in traditional instruments like fixed deposits, savings accounts, LIC policies, etc., to provide you with education or buy a house. That is a classic example of goal-based investment planning.
Goal-based investing will not only help you to achieve your financial ambitions but will also help you better understand the value of your investments. These financial goals can range from buying a home and retirement planning to saving an emergency fund or taking a foreign trip. If not planned well, you can miss some of these milestones in your life. Thus, you should consider planning for them seriously.
While goal-based investing is instilled in many areas of life, active investing is still a new concept. You can no longer solely save money in bank or LIC policies and expect it to grow as it did for your parents. With rising inflation and cost of living, it is critical to plan your investment based on your goals and forecast the coming times. This is where goal-based investing helps you.
Goal-based investment planning helps you identify, quantify, and design an action plan to achieve your goals. It works on the simple idea of achieving a particular goal rather than chasing returns. The goal planning will include even the type of risk you can take. This investment style helps you to achieve your dreams and make your future stress-free.
Why Should Goal-Based Investing Be Considered?
Hope you’ve got a gist of what goal-based investing is. Here are a few reasons to help you understand why you should consider it.
1. You can niche down your goal requirements
Goal-based investing helps you identify each goal and dive deeper into each. This gives you a clear picture of how much money you need to put aside each month or year to reach your goals.
For example, your goal is to buy a house after 10 years. Currently, the cost of real estate is Rs. 50 lakh. After 10 years, at the 6% inflation rate, you will need Rs. 89,54,238 lakh for the same house. So, you need to plan your investments so that after 10 years, it gives you Rs. 90 lahks. Doing some basic maths will help you to quantify the amount for this goal, which we will soon see.
2. You invest in the right investment products
As soon as the goal and the corpus amount are decided, you simply invest in the asset classes that fulfill that goal.
Let’s take the above example of buying a house a notch up. To get Rs. 90 lakhs from your investment, you can choose to invest in a mix of equity and debt, only equity or only debt.
(Amount is rounded off.)
|Investment Asset Class||Annual Return||Risk Involved||Monthly Investment Amount||Annual Investment Amount|
|Debt||7%||Low||Rs. 29,000||Rs. 3.44 lakh|
|Equity||12%||High||Rs. 21,500||Rs. 2.58 lakh|
|Debt + Equity||10%||Medium||Rs. 24,000||Rs. 2.90 lakh|
While for short-term goals, investment in debt securities is preferable, for fulfilling long-term goals, a mix of debt + equity instruments is required to earn better returns and still adjust the overall risk, as shown in the above table.
Goal-based investing helps you identify your needs and risk profile and invests in a way that you have the right portfolio mix.
3. You instill a sense of financial discipline
Often, people fail to achieve their financial goals as they lack discipline in investing money. You can remove this tendency by setting goals and making plans to achieve them. You can automate your investments based on goal-based planning and avoid any panic due to market volatility.
Imagine what you would do with your money without clearly defined goals! You might invest more when there is euphoria and sell in panic when there is a bear market. This can lead to higher costs, and also, it is not the way to invest money. Goal-based investing helps you to stay intact in every market condition, and you won’t deviate until the goal is achieved. It also attracts compounding returns.
4. You can rebalance your portfolio
When investment is made based on goals, it helps you to keep a tab on your portfolio and rebalance and review it periodically. This helps you align your portfolio with your investment goals.
Goals-based investing typically assigns a certain weight to certain asset classes per your goals. Any changes due to market fluctuations or changes in your financial condition get rebalanced to avoid any misses and strain you financially. Rebalancing ensures you do not take excessive risks and stay within the allowed band of particular asset classes.
5. You can avoid debt traps
In the absence of clearly set goals, you might run out of money at a crucial time, i.e., missing installment payments for your car or EMIs on your house. This causes you to take more debt in times of emergencies. While debt certainly fills your liquidity requirements, it is a liability.
Thus, goal-based investment planning holds importance. If you are investing money regularly, you will have the funds at the time of need and will not require taking any debt.
What Are the Advantages of Goal-Based Investing?
Let’s discuss some points on how you can take advantage of this investing style and achieve your goals.
- Helps you adopt a disciplined investment route: Gold-based investing helps to answer questions like how much, how long, and how to invest. It allows you to pursue disciplined investing through regular, monthly SIPs.
- Ease of planning & saving: The best thing about goal-based financial planning is that it sets a course of action for you to give you a clear picture of how much you need to save each month and control your expenses to achieve your goals
- Portfolio diversification: Goal-based investing invests your money based on your unique goals. You get diversification benefits when you match your investment holdings with different asset classes to get maximum returns and mitigate risks. Having uncorrelated investments (like equity vs. debt) is ideal for achieving your goals in a balanced way.
- Financial safety & independence: Goal-based investing helps you to achieve independence as your investments are linked with the goals and provide you the safety net to plan in advance for any uncertainty and achieve goals.
- Tax planning: Goal-based investing also helps you plan the taxes in advance rather than invest hastily at the last moment just to save taxes. Financial plans are designed to include tax-saving instruments, where you get to compound your money while also saving on taxes.
Examples of Goal-Based Investments
Now it’s time to take theory into some practice. The below examples will give you a good overview of how goal-based investing in real life and how it can be achieved.
- Retirement: If you are young, like in your late 20s or 30s, and thinking of retiring between 65-70, you have an ample amount of time. Because time is the factor that is under your control, you can invest in a little higher risk asset classes such as equity stocks, mutual funds, etc.. aim for systematic investment plans in equities and let your capital grow.
- Buying a new home: Buying a house is a dream of many. The value of the house dominates the panning part of this goal. Here you can start saving 20% to 30% of the value as a down payment and take on less debt. You can achieve this through a mixture of SIP in blue chip stocks and other equities categories.
- Emergency corpus: Covid has put more focus on emergency funds than ever before. An emergency fund helps you in case of an emergency, whether it’s personal or health-related. This fund should be 6 to 12 months of your monthly income. This investment should be parked in liquid funds and FDs. Remember, the objective is to safeguard your funds rather than chase returns.
- Big expenses: Big purchases can be anything like buying a car, renovating your house, or taking a foreign trip. Based on the value, you can either invest in equity SIPs or FDs, or recurring deposits if the time to purchase is near. These are short to medium-term goals, and thus you need to have a balanced portfolio having equity and debt.
- Education: If you are planning for your child’s education, based on age and the choice of the stream, you can invest money. For example, an MBA from a class-A institute costs anywhere between Rs. 40 to 50 lakhs, while a career in medicine can be anywhere near Rs. 70 lakhs to Rs. 1 crore based on niche and institute after 10 to 15 years.
Things to Keep in Mind Prior to Beginning Goal-Based Investing
You must consider the below points before pursuing goal-based investing.
- Set clear goals: Identify your goals and set your time horizon to achieve them to ensure efficiency in your planning.
- Check your risk appetite: Your risk tolerance can have a very big influence on your portfolio components, and setting it right goes a long way. Generally, financial planners come with a questionnaire to assess an individual’s risk profile. Make sure you have this identified.
- Investment corpus: Have a clear figure for investing. Based on your monthly income and ability to save and invest, the investment corpus is decided for your goals.
- Selecting the right asset mix: You need to have exposure to both equity and debt in addition to other asset classes to achieve your goals. Asset mix will depend on your goal and the time to achieve it. For instance, longer-term goals can be in equity to earn inflation-beating returns but short-term needs secured returns, so debt tools are suitable.
- Periodic assessment: This is one of the most important things. After creating your portfolio for a particular goal, you must review it on a periodic basis to see if the asset weights are intact. Markets are dynamic, and asset weights can move drastically due to changing market conditions.
You need to plan your goals to have a clear path to achieve them without any speed breakers. Goal-based investing is a proven concept that can help you undertake the same. To succeed in your financial endeavors, plan them well, invest in them and have patience for money to work for you. In the long run, consistency in investing will help you to fulfill your goals.
1. Why is goal-based investing important?
Goal-based investing helps you invest money systematically to ensure your goals are achieved as expected. It helps you ignore market noises and stay invested to achieve your goals. It is a great way to remove human biases and stay clear in your investing journey.
2. Which goal-based investment gives more returns?
Goal-based investing helps you plan finances and invest by narrowing down your goals and investing in assets that yield the best returns as per your risk profile. There is no speculation but a quantitative investment in equity, debt, or other asset classes, ensuring you get the return you need to achieve your financial goals.