|Pradeep Saxena with family|
Age: 42 years
Monthly income: Rs 16,800 (post-tax)
Financial dependents: Three
Click here to see their portfolio analysis
Be your own mutual fund expert
Saxena has chosen two good funds for his portfolio without the help of a broker. Here’s how you too can choose a good equity diversified fund:
• Choose a fund that suits your risk profile. Equity funds for high risk, balanced funds for moderate risk and debt-oriented funds for low risk
• Invest in a well diversified fund that spreads its risks across sectors and stocks
• Compare the long-term performance of funds in the same category
• Do not be guided by net asset value while assessing a fund
• Check the record of the fund manager and the reputation of the fund house
• Avoid new fund offers unless they offer something different• Don't invest in more than 4 or 5 funds
For most people their brokers are their investment gurus. For most people the worst financial move is making investments based entirely on brokers’ recommendations. Not to say that brokers can’t give good advice. But sometimes, they don’t. The irony: if investors did research about financial products, they would be less likely to go completely wrong. Pradeep Saxena, 42, is a case in point.
A section officer with a government college, Saxena was the typical risk-averse investor till last year. He started reading about the high return potential of equities and based on information gathered from magazines and books he has invested in two mutual funds and stocks of four companies. Though we will tweak his equity portfolio a little, his choice of products is not bad.
But the same investor bought a money back and three endowment polices which provide him a life cover of only Rs 25,000 each. Clearly, the wrong insurance strategy. All four policies were suggested by his broker. Saxena did not check on them personally. So the first learning is to rely on common sense and carefully study an instrument before investing in it.
There are other lessons from Saxena’s portfolio analysis too. To know them, let’s first look at his current assets.
Saxena earns Rs 15,000 a month post tax. Another Rs 1,800 is added by the interest income from investments in monthly income schemes (MIS). Of this about 59%— Rs 10,000—is consumed by routine expenses. This includes an EMI of Rs 3,166 for a home loan. His only monthly investment is Rs 1,000 in HDFC Equity Fund via a systematic investment plan (SIP).
Saxena has a sizeable debt cushion of about Rs 2.3 lakh invested in Kisan Vikas Patras and MIS. Among equity investments he has an equity linked savings scheme (ELSS) in addition to the SIP. He has recently bought four mid-cap stocks including Reliance Petroleum, Vishal Exports and Power Grid.
In 2004 Saxena bought a twobedroom apartment in Bhopal worth about Rs 3.5 lakh. Of this, Rs 3 lakh was financed by a home loan of 20 years at 11.25% interest. In four years, the price of the apartment has shot up to approximately Rs 6 lakh.
The outstanding loan amount is about Rs 2.8 lakh. We suggest that Saxena partially or fully prepay the loan by withdrawing money from debt instruments. This is because the interest earned on these investments is much lower than the rate of interest of his loan. Though one should always maintain a sizeable debt cushion, since Saxena has a secure government job he can take this risk. However, we suggest he maintain an emergency fund of about Rs 30,000.
Both the mutual funds in Saxena’s portfolio have performed well in the past year. He has also picked up some good stocks though the choice does not seem to be based on any specific strategy. But he must increase equity exposure. This will accelerate the growth rate of his portfolio. Most of Saxena’s goals are long term. Consequently, the monthly investments required for them is quite low—a benefit of planning early.
Yet these goals cannot be achieved without disciplined equity investments. Since he is in his forties, we recommend starting an SIP of Rs 3,500 in a balanced fund like HDFC Prudence which has a lower equity exposure and hence a lower risk than an equity fund. Alongside, he should continue investing in HDFC Equity. But further investments in HDFC Long Term Advantage fund must be stopped. The tax benefits can be obtained from the Ulip which we will recommend in a little while.
Regarding direct equity, we suggest that Saxena hold his stocks only if he is sure that he can manage them well. As he grows older and his risk appetite decreases it is wiser to stick to large-cap stocks which have lower risk.
To maintain his current standard of living after retirement, Saxena requires a nest egg of about Rs 72 lakh. Some of his regular expenses after retirement will be met by his pension of about Rs 5,000. The interest from MIS will also continue to trickle in. But he must begin investing in an equityoriented instrument for the specific purpose of building a retirement corpus.
Instead of choosing a mutual fund, we suggest he start investing in a Ulip which has annual management charges less than 1% of the total assets under management (AUM). Since his retirement is 18 years away, despite the high early charges of a Ulip, it will turn out to be cheaper than a fund which charges 2% to 2.5% of AUM as asset management fees.
Ulips allow investors to choose their portfolio classification between debt and equity. If Saxena wants to take less risk, he should opt for a Ulip with a heavy debt component. He can also make a fixed number of free switches in a year between equity and debt.
Clearly, Saxena needs to read up on Ulips like he has done for mutual funds to reap their full benefits. Saxena is woefully under insured. We suggest that he buy a term plan of Rs 10 lakh for 20 years. Annual premium outgo will be about Rs 6,000. His current insurance policies are expensive. Since they are more than three years old but not near maturity, we suggest he convert them into paid up. This way he will no longer have to pay the premiums but retain the insurance cover (which may shrink a little).