Ensure liquidity and also returns
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Ravi Naik, a retired manager of a small company, earned a decent salary during his working days. He always believed that a saving account was the best option available for him as it did not contain any risk whatsoever. Therefore he kept all that he saved after meeting his expenses in his saving account. By the time he retired, Naik’s savings grew, but only marginally thanks to the low interest rate that a savings bank account earns. Another flip side of a low interest earning was that inflationary trends ate into the growth, thereby making it useless by the time Naik needed the money. As a result, today he is struggling to meet ends and working part-time to be able to do so.
Now look at the case of Satish Dixit, a regional manager with an MNC. Dixit knows the financial markets pretty well and has been parking his funds in the market right from the days of his first job. His saving account does not hold any significance for him and he maintains only the minimum required balance in the account. The rest of the money goes into equity markets, mutual funds, insurance and other investment options. One night his pregnant wife fell ill and was required to be admitted to the hospital. Doctors advised that a surgery is required and he was asked to deposit a sum of Rs 50,000 in the hospital. Dixit did not know what to do as he had no liquid cash on hand or his saving account. Arranging money at that hour was a tough task and he could manage it only with the help of his friend who lent him money from his savings bank account.
These are two extreme cases. One was flush with liquidity but was not earning enough to be able to build a reasonable corpus for himself at the end of his productive life span. The other was overly conscious about making his earnings work hard for him but only at the cost of his immediate liquidity. None of these is an ideal situation. If you really want to have a safe and secure future, you must strike a balance between your savings and liquidity on one hand and your investments on the other. So, is there an optimum benchmark of what needs to be kept handy in a savings account or even in cash and what needs to be invested so that a reasonable corpus can be built over a period of years by earning a decent return?
The Liquidity Factor
A savings account, which implies liquidity indeed is important as it serves a lot of purposes. Money can be deposited in a savings account without the hassles of compulsory lock-ins. It can be withdrawn with as much of ease as it can be deposited in these accounts. “A savings account should be used as a transit point for funds as it earns 4 per cent now (from 3.5 per cent till very recently). An investor must just keep a sufficient amount for liquidity and invest the rest. Even from a liquidity perspective, beyond the absolute liquidity required, the money can be kept in a sweep-in account or can be in an ultra short-term fund,” says Suresh Sadagopan, a certified financial planner.
In the opinion of Srikanth Bhagavat, Managing Director, Hexagon Capital Advisors, a savings account is a misnomer. All it does is allow for accumulation in an easy manner, but by no means does it qualify as the final resting place. On the other hand, Mukesh Dedhia, another financial planning expert, says, “A saving account cannot beat inflation and thus it cannot fetch better returns in the long run. All I can say is that your savings should depend on what your financial goals are.” Further elaborating on what needs to be ideally done, Dedhia says, “If you are planning for long term, say about seven to nine years, then you should invest in equities. If your future goals are for three to five years, then you should be investing in a mixture of debt and equity. And if your future goal is for short-term i.e. one to three years, then you should invest in debt.”[PAGE BREAK]
How Much?
How much should be there in your saving account that can be available to you at the spur of the moment? Now that is a question which needs closer scrutiny. The answer primarily depends on your monthly expenses. Besides, also keep in mind certain situations such as a medical emergency where you will be required to arrange for cash at a short notice and also a fairly rough estimate of your short-term financial responsibilities that are likely to come up such as a marriage in the family. So, closely scrutinise your financial position and the ability to arrange cash in such situations and then take a decision accordingly.
“A savings account should have enough balance to meet your contingencies. I personally feel that three times your monthly household expenses should be set aside as contingencies,” Dedhia suggests. Bhagavat also feels that a savings bank account should be allowed to hold as much money as required for an emergency or to allow for debit card/ATM usage. The rest can be swept into a fixed deposit account (the flexi-deposit variety is the best) or any other investment avenue as the case may be.
Strike A Balance
The best way is to strike a balance between your saving account or liquidity and investments. An ideal investment model is one that allows an investor to beat inflation, build wealth and reach his/her desired target with zero risk. But that is far from reality. The real world allows investors to build wealth and beat inflation but with some risk. The key is to try and minimise this risk, or in lay terms, increase the certainty of reaching the target. “It is indeed a fact that there can’t be one ideal saving-cum-investment model for all. It all depends on an individual’s age, income, liabilities, family goals, and so on,” says Jaydeep Kashikar, a financial planning expert.
Conclusion
A savings account can be the most useful medium when it comes to immediate liquidity. It is not an investment vehicle which can be used for earning returns though. This is where a line needs to be drawn. One must keep in mind that the best way to store cash without unreasonable risk is to keep it deposited in a saving account. This would allow you easy access to your money any time you need it. Having said this, the only way to create meaningful wealth through your earnings is to invest the remaining amount carefully with the help of professional guidance.
Here are some dos and donts to be kept in mind during financial planning:
Dos:
• Prepare a list of financial goals – responsibilities and dreams.
• Prepare a cash flow statement of fixed expenses and variable expenses.
• Prepare a statement of net worth.
Don’ts:
• Never wait for a rise in salary to start saving or investing.
• Don’t delay your investments.
• Don’t focus on the market, but focus on your goals.
• Don’t time the market, spend time in the market.