Expert advice

Aug 28, 2013,19.55 IST

Five money management tips to navigate the downturn

Vicky Mehta
Morningstar India

An economic downturn is a testing time for individuals. While you cannot influence the environment, you can certainly do your bit to fortify your finances.

Any advisor worth his salt will tell you that that financial planning is all about navigating the investor’s finances through various market conditions, and ensuring that he achieves his investment goals.

Also read: Rupee at 68: Sorry Chidu, you are as responsible as Pranab

An economic downturn is perhaps the most testing time for investors. As we are experiencing presently, a downturn brings with it uncertainty and pessimism. Experts paint a doomsday scenario in the media has become the order of the day.

Though you cannot influence the environment, you can certainly do your bit to fortify your finances.

We present five money management tips to navigate the downturn.

1. Create a contingency reserve

If you haven’t already created a contingency reserve, now is as good a time as any to do so. As the name suggests, a contingency reserve is simply a pool of money set aside to provide for unforeseen events.

In times of uncertainty, when the possibility of layoffs and business income drying up rises, the need for a contingency reserve becomes pronounced. An adequate contingency reserve ensures that you can go about with your day-to-day activities even in the event of an unexpected (and unpleasant) situation arising.

How should you determine the amount to be set aside? Start off by making an estimate of all monthly expenses (such as electricity, telephone, petrol, gas, grocery) and fixed commitments (such as rent, EMIs, children’s tuition fees). Suppose you arrive at Rs X as the sum needed every month.

Then, decide the period for which a provision is required. Say, you decide to create a ‘safety net’ for 6 months. In that case, you need to create a contingency reserve of Rs 6X.

It is important to treat the reserve in a sacrosanct manner. Hence, it will help to open a separate savings bank account and maintain the reserve therein.

Not only will this safeguard against the reserve being used for any other purpose, but it will also keep the reserve liquid.

2. Become liability free

A surefire way to augment your financial standing is to reduce liabilities and becoming debt-free to the extent possible. Start off by repaying unpaid credit card dues, credit card and personal loans that you may have taken.

Also, if you have availed of a home loan, you should consider repaying it to the extent possible. Critics might point out that this strategy isn’t tax-efficient since tax benefits are capped on repayments of the interest and principal components at Rs 1.5 lakhs and Rs 1 lakh respectively, in a financial year.

However, the primary intention here is to brace yourself to face the downturn rather than maximise tax benefits.

Until the uncertainty abates, it would also be prudent to be conservative and not take on liabilities, which are discretionary in nature. For instance, resist the lure of buying that latest electronic gizmo which is being sold with a 'no down payment and easy EMIs' facility.

Such liabilities can be taken on at a later date, in a more financially-comfortable environment.

3. Buy medical insurance

In this day and age, medical emergencies and hospitalization are capable of wrecking even the most robust financial plans, if they haven’t been provided for. If one’s finances aren’t strong, the impact can be even more damaging.

An efficient way to protect yourself against such a scenario is to buy medical insurance for yourself and your dependents.

There are a plethora of options available—both in terms of insurance companies and kinds of ailments covered. Put in an adequate amount of time and effort while evaluating various plans, so that you can select one that is most apt for you.

Also, avoid the commonly-made mistake of buying an insufficient insurance cover to save on the premium paid. That could prove to be the proverbial case of ‘penny wise and pound foolish’.

An ancillary benefit of buying medical insurance is that you can also claim tax benefits under Section 80D of the Income Tax Act on the premium paid.


4. Invest in assured return avenues

As a part of the asset-allocation exercise, you should be invested in fixed income, among other asset classes. You should consider assigning that portion of your portfolio to avenues such as Post Office Monthly Income Scheme (POMIS).

Investments in POMIS earn an assured return of 8.4% per annum. Also, the scheme is risk-free, since the investment is backed by a sovereign guarantee. Another option to consider is bank fixed deposits that offer interest payouts at monthly or quarterly intervals.

In effect, you can avail of both safety and liquidity—a much-needed combination in times of uncertainty. Also, at a time when your market-linked investments might be bleeding, the presence of fixed income investments can shore up the portfolio.

5. Keep faith

If good times don’t last forever, neither do bad times. Hence, there is a need to be resilient through testing times like a downturn and not be panic-stricken. Else, you run the risk of making imprudent financial decisions.

For instance, individuals have been known to surrender ongoing insurance policies to avoid paying the annual premium or dump underperforming market-linked investments thereby converting notional losses into actual losses.

Such rash decisions are uncalled for and can be detrimental to your long-term financial health. Simply put, keep the faith and stay the course.

The author is a research analyst with Morningstar.

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