Managing ‘Risk’ is a challenging part of everyone’s life and without a doubt it is the most critical aspect of personal money management. As a concept, money management for economic growth is nothing new and has been in existence for thousands of years, for example, as documented in Kautilya’s Arthashastra more than 2000 years ago!
However, the abundance of financial products these days, offered both by domestic and global financial institutions, provides a range of new innovative options to invest and manage personal wealth. More importantly, a range of risks emerge, through the selection process and biases, i.e., questions on which products are relevant and which are not, in order to properly manage personal financial portfolios. Especially working professionals who are engaged in their day-to-day work-life balance and do not have time to focus on their personal investments and daily financial management, should be cautious about their personal financial risks.
It is rather easy to stay conservative by not doing much without taking any risk at all. On the other hand taking too much risk by being aggressive (for example buying lottery tickets with all your money) can result in nothing but large losses leading to unwarranted situations. It is important to strike a balance by adopting a prudent strategy to manage personal finances,This question begs for a prudent strategy incorporating macroeconomic conditions and outlook of the future by establishing realistic and achievable goals. What is the best way to allocate personal financial portfolios? How much should be allocated across asset classes, i.e., money markets, fixed income or equities, mutual funds etc?
If one naively puts all the eggs in the same basket, or stays conservative by solely investing in bank Fixed Deposits, what could potentially happen? Well, if the inflation is high, the interest earned on the Fixed Deposits may not be sufficient to provide real growth. A dollar or rupee in future is worth less than what it is today, in terms of purchasing power of a commodity, and that is perhaps the simplest way to understand inflation. With these factors in mind, it makes sense to create a personal portfolio that will grow at least with the growing economy such that the growth is more than the inflation. In a way, failure of personal financial risk management can be viewed as the case, where personal wealth is not able to grow with the inflation to sustain its value over long term.
Buying gold (a popular commodity) as an investment has been an option, however, in India, gold is considered a long term investment with added sentimental value. Gold is typically stored in bank lockers, and will only be touched when there are major events or functions such as children’s marriage. Rarely one wonders how much gold should be part of their personal portfolio, and most people tend to think that they should have as much gold as they can afford.Especially for long term sustainable growth that can be achievable by wealth compounding effects. The big question then is “how should one go about managing personal financial risk”?
First, “Insurance” helps mitigate the risks related to accidental or unexpected adversities. A CEO of an Insurance company would even go this far to say “Insurance is the Oxygen” of the free enterprise system, and could easily make an argument that is how the free markets evolved especially in developed countries. In India, in contrast, development of financial products started over the past decade, after the regulations have become conducive to the growth of private enterprises and mutual fund markets. However, too much insurance can eat into investments and savings, due to high premiums. It is important to understand different type of insurance needs, specifically by asking questions on how much insurance is needed, and what type and why? Is it affordable and relevant with respect to your personal circumstances and goals?The focus then turns to personal investment management. How would you manage your current portfolio so that it will be there to support you when you need your money the most?
Another important factor to consider is that the personal investment strategy should ensure to address the liquidity (or cash) needs. For example, if all the personal investments are in fixed assets such as real estate, especially during times in need, one needs to borrow money against fixed assets or resort to a quick discounted sale. Also, it may not be easy to dispose those fixed assets quickly or the borrowing rates could be onerous, even if the underlying assets are income generating through rents.
Irrespective of the choice of investments, a portion of the portfolio should always be in assets that can be liquidated easily, to cover immediate just in case needs. Indeed, this should perhaps be the basic criteria, for personal financial risk management. Also, it is only desirable that any disposable income after securing some fixed assets and gold should be managed such that it grows positively, at least with the economy. What is now in hand should not become less in future, in terms of purchasing power. This calls for a prudent asset allocation strategy, crafted and customized for your personal situations. It should address your realistic expectations including your imminent needs and achievable goals, based on a holistic approach.
We at Artha Yantra believe that it is important to adopt a disciplined approach to personal financial risk management using a rigorous financial planning followed by execution through choice of prudent Investments, insurance and loans. This will be the key to long term success. Personal financial risk can be mitigated by adopting Artha Yantra’s holistic “Personal Financial Lifecycle ManagementTM” PLFM solution, as an integrated approach. More information can be obtained from Artha Yantra’s financial advisors or from ArthaYantra.com.
