Restarting investments after a major expense or cash outgo

Akshay Gupta 06 November 2013

Major expenses are mostly pre-planned. If they are unplanned, they may cause a deeper hole in our pocket that may be difficult to stitch quickly unless you follow simple and basic principles of investing throughout

A major expense may not only set us back financially but also psychologically. We may feel akin to having swum onshore aboard a sinking ship. There is cheer that a major task may have been accomplished but there is also despair that we may not know how to recoup our financial energy quickly.

Major expenses are mostly pre-planned. If they are unplanned, they may cause a greater hole in our pocket that may be difficult to stitch quickly.

I recently met a well educated (IIM graduate) professional, who had just been through a major medical expense (for his father). He asked me for help in reconstructing his financial future.

I tried my bit in enlightening him to start his investments engine with simple and basic principles. Strangely enough, he was unaware of the majority of following principles:

A new beginning: Start saving. We must start spending less than what we earn. Taking leverage to keep ourselves afloat after a major expense can prove to be like getting stuck in a spiraling storm.
Active Management: Put our savings to good use. Letting our savings lying idle in the form of money in savings or current account or even as cash at home will cause our recovery to be a long drawn one. Let me illustrate with an example – even if you save Rs10,000 per month and put it in a liquid fund (the least volatile and most liquid type of mutual fund product) vis-à-vis savings account or current account, you end up earning a minimum of Rs4,000 more per annum (over the last 10 years, liquid funds have given average returns of 7-11% per annum vis-à-vis 0% and 4% in current and savings accounts, respectively)
Diversification of investments: Invest across investment classes like fixed income, equity, gold, real estate. Due to global and local economic factors like uncertainty, inflation, currency fluctuations, we must look at all possibilities that fall within our risk-return parameters. Consideration of future requirements and time horizon often drives the asset allocation pattern.
Post tax returns: Taxation brackets can influence significantly since there are arbitrage opportunities available for capital market products like mutual funds, equities and tax-saving schemes/instruments.
Monitoring: When we end up monitoring even the smallest expense, then we must allocate time to monitor our hard-earned money invested. Just one hour per week is sufficient to ensure that we have a complete hold on our investments.
Cut out emotions: Emotion is the cause of our investments going awry. We tend to get stuck with our investments because we keep justifying existence of these unproductive investments in our portfolio. Exiting these investments becomes difficult since these erroneous investments tend to make us feel guilty. Even if the decision has been made by us on the recommendation of someone known to us, we must evaluate objectively and exit (even with losses) as soon as we get an opportunity.
Re-balancing: Investments are like diet. They need to be re-balanced for getting proper outcomes. Just as a dietary imbalance can cause a health scare, an investment portfolio imbalance can cause a wealth scare. Going excessively on an asset class that we tend to prefer may not be an appropriate strategy for financial planning. Most of us Indians have a fetish for physical assets like Gold and Real-Estate and hence, we tend to get over-board on them. This can prove to be counter-productive in high-growth phases in economy. As seen between the years 2003-2007, equity investments far out-performed Gold and also they are far more liquid than gold.
Get an advisor: Last but not the least, one should get a skilled and honest investment advisor and stick with that advisor for a long period of time. He/ she will ensure that most of the above is followed and followed rigorously.