Patience is a rare quality today. Especially when it comes to the youth and more so when it comes to their investments. That must make Pune-based Aditya and Sharmistha Gadge a rare couple. The recently weds have just started investing in mutual funds but unlike many people of their age are in no tearing hurry to cash in. “We are not planning to touch these investments at least for another 15 years. We are even prepared to extend this tenure up to our retirement,” says Aditya, a brand manager with an institute that prepares budding students for the entrance tests of B-schools. His wife Sharmistha, an HR professional with an MNC, shares his views.
The Gadge’s long-term perspective comes as a breath of fresh air in these volatile times. It is especially beneficial because their investment portfolio is heavily biased towards equities, with 75% of their assets in stocks either directly or through mutual funds. In the long term, equities give the highest returns than any other form of investment. Both Aditya and Sharmistha are 27 so they have time on their side. As investment guru Warren Buffett said, “My favourite holding period is forever.”
A sizeable portion of their equity investments is through mutual funds. While there is no problem in the funds they have selected, the number of funds they have invested in is quite big. Aditya has investments in seven funds while Sharmistha has 10 funds in her portfolio. They have invested small amounts in too many funds, which makes the job of managing the portfolio quite difficult. Ideally, an individual should have about 4-6 funds in his portfolio, each with a distinct investment style. For instance, one may want to invest in two mid-cap funds, two large-cap funds, a balanced fund and one tax plan.
The problem of plenty in the Gadges’ portfolio cannot be set right immediately because many of these investments are in equity-linked tax plans that have a three-year lock-in period. The best strategy for them would be to monitor their funds and drop the ones which underperform on a sustained basis. They can also consider investing more in HDFC Prudence. A balanced fund, it has outperformed many equity funds.
Just as it is good to be a longterm investor, it is bad to be a long-term debtor. The Gadges are going in for a home loan of Rs 35 lakh to buy a new flat in Pune. With property prices at an all time high and interest rates climbing to about 12%, this may not be the best time to buy a house or take a loan. But the Gadges are end users and once they shift into their own house, they save Rs 8,000 rent every month. Besides, a floating rate loan would get cheaper when inflation, and therefore the rate of interest, falls.
The disturbing part of their borrowing plan is the lengthy tenure of the loan. They are taking a 25-year loan. The EMI may seem easy on the pocket but it is terrible for your finances. A 25-year loan means they will have to repay more than double the borrowed amount (see table). So the Rs 42 lakh house will actually cost them Rs 1.18 crore. The redeeming aspect is that Aditya intends to make periodic prepayments and finish the loan in 15 years. Our point: why not take a loan for 15 years? The higher EMI would certainly call for some lifestyle related sacrifices but in two or three years, their rising incomes would be able to easily afford it.
The Gadges need not worry about how to do tax saving investments if they pay a large home loan EMI. A 15-year repayment schedule means they would repay around Rs 90,000 of the principal and pay Rs 4 lakh in interest in the first year. If it is a joint loan, their tax planning is taken care of for several years.
Also, by default or design, the Gadges have done a smart thing by opting for the dividend re-investment option for their ELSS investments. Under this option, even the dividend (which is automatically reinvested) is eligible for exemption under Section 80C. This is especially beneficial for all those who are not able to exhaust the Rs 1 lakh limit. This is how it works: Suppose you invest Rs 40,000 in an ELSS fund under the dividend re-investment option. The fund declares a dividend of Rs 5,000 which is automatically re-invested. This Rs 5,000 is eligible for tax exemption under Section 80C. Therefore, while you invested only Rs 40,000, you actually get tax benefit for Rs 45,000. But there is a flip side to it: the amount re-invested gets locked-in for three years from the date of re-investment.
Another area of concern is insurance. Both have investments in Ulips where the premiums are invested in the index. Ulips have very high costs in the initial years. But that period of pain is already over for the Gadges. It is more cost-efficient to invest in a mutual fund. Insurance needs are best taken care of by a term plan. Aditya plans to take a term cover equal to the home loan. He should take a term cover of Rs 30 lakh for himself and Rs 20 lakh for his wife.
Financial analysis by MONEY TODAY, VALUE RESEARCH and EDELWEISS CAPITAL
