August 17 2019
Financial emergencies are unexpected situations that need money at a short notice. Though it is difficult to plan for every emergency, the matters that can be handled with money should be planned well in advance. Keeping some money aside in a safer options like short term bank FDs or debt mutual funds to meet financial emergencies is crucial for every individual’s financial success.
Quite often, when investors, especially first-time investors, are suggested to have some allocation in safer debt funds and which are not affected by stock market volatility, they do not find debt funds attractive to invest in due to their 7-8% returns. Their argument is that when they are ready to take high risk and do not foresee requirement of money in next 10-15 years, then why should they invest in debt funds and settle for lower returns. The concept of planning for rainy days does not ring bell to their ears.
From the real-life experience of our investors, we have seen many unexpected situations emerge where an investor requires funds at short notice, but all his/her investments are in equity-oriented growth funds. It is not always viable/beneficial to redeem from equity funds at those times. The emergency needs may be helping the family or a friend, medical requirements, unexpected travel plan, sudden demand from the builder for your booked real estate, house relocation/renovation, income tax liability, income need in case of job change/job loss, preliminary expenses for office work and so on. Such emergencies prompted those investors to redeem from their equity funds in few months/years of investing, sometimes at loss, the investments which were originally planned for 10-15 years period.
For prudent financial planning, it is important to keep at least 10-20% of our total investment in debt funds. Though individually debt funds may not look attractive when the equity market is on the rise, but limited allocation to debt funds does not lessen the returns of the overall portfolio. In fact, portfolios with some allocation to debt funds generates overall better returns because in such portfolios, the investment in equity funds remain invested for a longer period of time, hence reaping benefits of compounded growth. Debt investment takes care of the emergencies.
Many of our investors who have kept some money aside in debt funds to meet unforeseen expenses, love the peace of mind their investments offer.
Thorough planning to meet financial emergencies by investing in safer debt funds not only give us peace of mind, but also helps in creating wealth through remaining amount being invested in equity assets over a longer period. Debt funds should be seen as foundation for sustainable wealth creation and not as a drag on portfolio returns.