Avoid the temptation of investing in instruments that promise a higher rate of return, unmindful of risks
The State Bank of India pays interests of 5.4 per cent and 6.20 per cent (to non-senior and senior citizens, respectively) on its 5-10 year fixed deposits (FDs). However, the consumer price index (CPI)-based inflation
touched 7.34 per cent in September. If CPI inflation
remains at this level, households investing in such safe instruments will end up with negative real (inflation-adjusted) returns.
The key reason for the current surge in inflation
is high food prices. “There has been a sharp spike in food prices over the past 9-10 months, and that has put pressure on household expenses,” says Sriram Iyer, chief executive officer, digital wealth management, ARWealth, an Anand Rathi company.
How can you deal with this scenario of low interest rates and high inflation? Reduce your expenses and save more. “If your savings are not earning inflation-beating returns, you need to save a lot more to achieve your financial objectives,” says Mrin Agarwal, founder-director, Finsafe India.
High-cost debt has the potential to put you in a deep financial hole. “Rather than earning a paltry return, use your savings to pay off high-cost debt, like credit card and personal loans,” says Pankaj Mathpal, founder and managing director, Optima Money Managers.
Avoid the temptation of investing in instruments that promise a higher rate of return, unmindful of risks. Some smaller banks, for instance, offer higher interest rates than those offered by leading public- and private-sector banks. “It is true that deposits up to Rs 5 lakh are insured. But if a smaller bank goes belly up, you may receive the insurance money only after several years,” says Mathpal.
The temptation to invest in lower-rated bonds (those rated below AA+), in debt funds carrying high credit or duration risk, or in the stock markets (by inexperienced investors) should be avoided. Agarwal adds that investors should also avoid insurance-cum-investment plans. Here the rate of return rarely exceeds 4-6 per cent.
Gold has the ability to provide a hedge against inflation. If you do not have a 10-15 per cent exposure to gold in your portfolio, start building it via gold exchange-traded funds and sovereign gold bonds. Buy on corrections.
A balanced portfolio has a good chance of providing inflation-beating returns over the long term. “Define your financial goals and then allocate to equities, debt and gold, depending on your investment horizon and risk appetite,” says Gaurav Rastogi, founder and CEO, Kuvera.in.
Says Gopal Bohra, partner at NA Shah Associates: “Non-senior citizens can invest in lower-risk categories of debt funds for post-tax returns that beat FDs.” After three years, the investor is charged the long-term capital gains tax rate (20 per cent after indexation), which is more favourable than being taxed at the slab rate (as happens in FDs), especially for people in higher tax brackets.
Finally, try the barbell strategy. “Invest short-term money required in less than two years in low-risk instruments. Medium-term money that can be spared for two-five years may be invested in medium-term debt funds, while long-term money may be invested in equity mutual funds,” says Iyer.