In any walk of life, whether in academic career or corporate career or business, having goals and plans are essential to achieve success. The same applies in our personal life as well. Some of our personal goals are non-financial in nature, while others are financial. In this article, we will stick to the financial goals in various life stages. Examples of financial goals are property purchase (or making the down payment for property purchase), children’s education, children’s marriage, retirement planning, estate planning etc.
For each financial goal, we need to have a plan to meet our goal. The two important aspects of financial planning are savings and investments. Savings and investments are two closely related, but distinct activities. The most important objective of investment is to generate sufficient returns which will help you meet your financial goal and at the same time, ensure that your goal is not affected by risks and uncertainties, which are associated with various investment types. Therefore, the two most important aspects of investments are risks and returns. One should carefully evaluate both risk and return to make the best investment decision for specific financial goals.
However, in order to invest, you need to save first. Most retail investors rely on their monthly salary for income. They spend a portion of their salary on living expenses (food, rent, utilities, school fees, fuel etc.), set aside a portion for their debt obligations (credit card payments, vehicle loan EMI, home loan EMI etc) and then spend a portion of their remaining income on discretionary or non-essential items (clothes, gadgets, restaurants, travel etc). The remaining (unspent) portion of the salary is the saving.
The savings are invested to meet financial goals in the future. Mutual fund systematic investment plans (SIPs) are among the best savings and investment options for long term wealth creation and financial objectives. Through SIPs you can invest on an ongoing basis from your regular savings for your long term goals. SIP is disciplined way of investing. Investors can benefit from SIP through the power of compounding over a long investment horizon; each SIP instalment gets return for investors. On a cumulative basis, SIPs can create substantial wealth for investors over a long investment horizon.
Knowing the right SIP amount is the most important factor, in ensuring success towards your financial goals. If you do not invest the right SIP amount, you may fall short of your goals, no matter how well the investment does in terms of percentage returns. SIP calculator can help you find out the right SIP amount. These calculators work on the principle of future value of cash-flows at a certain rate of return.
SIP calculator requires the following inputs:-
- How much you want to save in the future after factoring inflation? This is the most important input and you should give it sufficient thought. Goals should always be quantifiable; even if the quantification is not very accurate, it gives you something to work on. You should always factor in inflation because goals are always in the future. Using average CPI inflation may not be the right input to determine this goal. Some items in our consumption basket are inflating at a faster rate than others. Education and healthcare are among the most inflationary items in the urban consumption basket. Accordingly, you need to factor in the correct inflation number to figure out this goal.
- Once you determine the inflation adjusted goal, the next important factor is the tenure of your investment. The tenure of the investment is one of the simplest factors; it is determined by how much time you have for fulfilling the goal. If you are determining the tenure of investment in years, in some SIP calculator, you may have to convert the tenure into months, to know how you have to save and invest monthly.
- The next important parameter in SIP calculator is the return expectation. The return expectation is determined by your investment strategy. If your investment strategy is biased to small and midcap funds, then your returns expectations should be higher than what it would be, if it was large cap biased; if you have balanced funds then your returns should be more moderate, so on so forth. Based on your investment strategy, which will be determined by financial goals and investment type, you can form returns expectations.
An important point about returns expectations is to be reasonable with regards to expectations. Mutual funds are subject to market risks and historical returns may not be the indicators of future returns. Therefore, you should base your returns expectations on long term average returns of the asset class. Generally speaking, investors could set expectation of around 12-15% annual return from good equity funds over long investment period.
Once you input all the parameters discussed above in an SIP calculator, you will know, how much you have to save and invest, in order to meet your financial goals.