The SMART Way to Calculate the Return You Need And Invest Wisely for Your Goals

Last week I shared one of my articles related to how a smartly done mutual fund investment can help you achieve your financial goals on my Facebook account. Madhura, my school friend with whom I was not in touch for years, messaged me and praised the article. As we spoke for a while, she insisted that we catch up over a cup of coffee.

So, as planned, we met last Sunday at her favourite cosy cafe in Chembur. It turned out that Madhura wanted to see me for investment advice.

Madhura told me, "Ketki, as I started working, I saw many of my colleagues investing in stocks and making additional money. Inspired by their success stories, I, too, started investing in stocks and suffered tremendous losses during the market fall. I am currently paying huge EMIs for the debt that I have created over these years and have recently started saving and investing a small amount in bank Fixed Deposits and Recurring Deposits. But inflation is such a bummer! I don't know how long it will take for me to achieve my goals with such low returns. At the same time, I am not ready to take the market tension and suffer losses again!"

Like Madhura, many individuals are clueless about financial planning and their expectations from investments. They simply follow their friend, colleague, or relative's advice and start investing without any goal in mind and without acquiring the required knowledge about the financial instrument they are investing in. This confusion mainly arises because while people think they have financial goals, their goals are not S.M.A.R.T.

The S.M.A.R.T. financial goals are Specific, Measurable, Achievable, Realistic, and Time-bound. For example, buying a car, retirement, and a child's education are S.M.A.R.T. goals. But some people just wish to be rich over time. While being rich or creating wealth can be an overall goal, it cannot be considered a S.M.A.R.T. goal.

"A man without a goal is like a ship without a rudder" - Thomas Carlyle.

Make sure your financial goals are extremely specific. It is important to specify for whom you have the goal (yourself or your child), what you want to achieve, the time in hand to achieve that goal, the purpose of the goal, the requirements and constraints, and so on. Any haziness around the goal can become an obstacle to achieving it.

Once you have set the goals, you need to prioritise and classify them into short-term, medium-term, and long-term goals. For instance, saving for a contingency fund could be classified as a short-term goal, buying a car could be treated as a medium-term goal, and retirement can be a long-term goal.

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Creating a financial plan towards your goals requires an assessment of several aspects. Inflation is a primary factor that hits your financial plan on multiple counts. It not only impacts the real returns you will earn on your investments but also have an impact on the way you plan for your goals. The average CPI inflation over the last year has remained elevated at 6.70%. So, in case you earned, say, 5.50% from a traditional avenue, viz., a 1-yr bank FD, effectively, you haven't earned any 'real returns' (also known as inflation-adjusted returns). Instead of growing money to achieve your objectives, you lose purchasing power due to elevated inflation.

Therefore, while planning for your long-term financial goals, you must be aware of the cost of achieving the goals. Most times, when thinking of our future expenses for achieving the long-term goal, we think we will be easily able to make it because we have a certain amount saved. However, we never consider inflation. You can use PersonalFN's Real Return Calculator to calculate the real returns that are calculated after considering the inflation.

If the average CPI rate is 6.70%, you are required to generate a higher return on your investments, which is certainly not possible with a bank fixed deposit. You need to take calculated risks and invest in productive market-linked instruments such as best mutual funds (and stocks), which potentially can help you earn an optimal real return. Investing in such inflation-beating financial instruments helps you achieve all your financial goals, such as buying a dream house, an international vacation, having a cosy retirement, and so on. That is why it is crucial to consider the impact of inflation when planning your long-term goals, making long-term spending plans, and investing towards your long-term financial goals. Investing in asset classes that have the potential to yield higher returns can help you counter the effects of inflation.

Hence, you must chalk out an asset allocation plan before investing for your goals. Choosing suitable investment avenues is a crucial step in financial planning. While doing the asset allocation, it is important to consider the time in hand to achieve your goals and your risk appetite.

Understand that risk and returns go hand in hand. For every return you seek, there is a certain level of risk associated with it. Each asset class, be it equity, debt, gold, real estate, etc., or the category of mutual fund scheme you choose, comes with a certain level of risk-reward. Hence, you should avoid investing imprudently going by just returns and be mindful of the risk involved.

While fixed-income products like bank fixed deposits offer guaranteed returns and carry low risk, they generally yield lower returns than the inflation rate. Hence, it does not make sense to invest in such investment avenues for the long term. On the other hand, while market-linked financial instruments like stocks and equity mutual funds have the potential to generate inflation-adjusted returns and create wealth in the long term, they carry higher risks. However, in order to diversify the risk, you can consider allocating a small portion of your investment to safer financial instruments.

Know that your different financial goals need different time horizons and investment amounts; hence, a single strategy cannot be applied to achieve all your goals. Investing in carefully selected rewarding mutual funds will help you achieve your goals and create wealth in the long term.

As shown in the above pyramid, large-cap funds are relatively stable and carry lower risk compared to their peers, but at the same time, sacrifice the return potential. Similarly, liquid funds carry low risk, whereas small and mid-cap funds are at the higher end of the risk-return spectrum. Similar to the different asset classes, each category of mutual fund has a distinct place on the risk-reward spectrum.

That said, take note that the high risk does not guarantee high returns.

Selecting the best-suited mutual fund schemes involves the analysis of several qualitative and quantitative factors. While the qualitative factors include portfolio quality, fund management style, fund manager's experience, funds to fund manager ratio, portfolio ratios and concentration, turnover ratio, investment systems and process at the fund house, assets under management, and so on, the quantitative parameters include the past performance of the scheme and risk-adjusted returns. Apart from these qualitative and quantitative factors, you should also consider personal factors like your risk profile, time in hand, and investment objective.

The Systematic Investment Plan (SIP) makes the best choice for novice as well as seasoned investors to build a corpus steadily and generate inflation-beating returns over time due to its sheer power of compounding and rupee-cost averaging. You can accomplish your envisioned financial goals by creating an SIP towards each of them with wisely selected best mutual fund schemes.

At PersonalFN, we understand that not everyone can have the expertise in calculating real returns and choosing suitable mutual fund schemes towards their financial goals. In fact, many individuals avoid investing in stocks and mutual funds due to the lack of market knowledge and the struggle to deal with market volatility.

But now, with the help of PersonalFN's SMART Fund Explorer, you can calculate the real returns you need to achieve your objectives and plan your mutual fund investments smartly. All you need to do is state your S.M.A.R.T. financial goals (such as buying a house, child's education, retirement, etc.), determine the time in hand to achieve your goal (such as 5 years, 10 years, etc.), insert the amount you need in today's terms towards achieving your goal, and the lump sum and/or SIP investment you can afford to make. Once you enter all the required details, tap on "Show Me My SMART Investment Plan".

Based on the details provided by you, the SMART Fund Explorer will provide you with the expected return (% CAGR) and value of the investment at the target date (which is calculated considering a nominal inflation rate of 8% p.a.).

As you scroll down, you will see two best-suited mutual fund investment plans (Plan A and Plan B) offered by SMART Fund Explorer. The plans specifically show the fund categories you should invest in, the asset allocation percentage, potential returns of each category, and weighted annual return contribution. You can choose any of the plans based on your risk appetite.

Since the SMART Fund Explorer provides you with investment plans after taking into account the nominal 8% p.a. inflation rate, you do not have to worry about the future value of your investment or inflation.

Moreover, you can get instant access to the list of best-suitable mutual fund schemes as per your selected plan by signing up for PersonalFN's SMART Fund Explorer. The list of smartly selected and recommended mutual funds by our research team will serve as an opportunity to begin your mutual fund investment journey smartly.

Happy investing!

KETKI JADHAV is a Content Writer at PersonalFN since August 2021. She is an MBA (Finance) and has over seven years of experience in Retail Banking. Ketki specialises in covering articles around banking, insurance, personal finance, and mutual funds and has been doing it for over three years now.