The possibility of job losses and pay cuts has only underlined the importance of a contingency fund
A wise man said that when you lose something, at least don’t lose the lesson. As you take stock of your finances and stack up the losses due to the COVID-19 pandemic, ask yourself what could have kept your finances in good shape? Here are a few steps that can bullet-proof your finances against such emergencies.
Expect the unexpected
The biggest financial lesson from the COVID-19 epidemic is also the simplest: always keep some emergency cash for a rainy day. People who followed this rule won’t have to defer their EMIs, seek relief from landlords or carry forward their unpaid bills. Banks have offered repayment moratoriums, but not forever. Besides, all loan repayments cannot be deferred. At some point, the stressed borrowers will have to sell assets to settle their debts. To avoid such a situation, make sure you have enough money stashed in a liquid fund or a bank deposit that can be easily accessed when you need it. The possibility of job losses and pay cuts has only underlined the importance of a contingency fund. The rule of thumb is to have at least 5-6 months’ expenses in such a fund.
Borrow and spend wisely
The repayment moratorium offer from banks is being seen as a godsend by some borrowers. But it also raises a pertinent question. If a borrower is under so much stress to pay his/her EMIs, should he/she have taken the loan in the first place? At least home loan customers have built an asset. The ground is more slippery for credit card users. They swiped plastic and racked up bills that they wouldn’t be able to pay. Spend and borrow only as much as your wallet allows. Otherwise, you will not only strain your finances, but even sully your credit history.
Keep credit history intact
The importance of a good credit history cannot be stressed enough. During an emergency, you might be forced to take a loan. This would be a cakewalk if you have been a good borrower with an unblemished record. Even if you have lost your job, a good credit history can get you a loan. But lenders will avoid if you have delinquencies in your credit report. Since institutions now talk to each other, changing a bank or approaching a new lender won’t help much. It may be more useful to improve your credit score when the going is good, so that it doesn’t work against you when trouble comes.
Don’t risk money you need very soon
The downturn in the stock market has turned the world upside down for many investors. Financial advisors are putting up a brave face and telling their clients to stay put. They expect the stock markets to eventually recover. This may be true, but it could take a few months or even years before stock prices reach their pre-COVID levels. People who can’t wait for the recovery are in trouble. The rule is not to invest money you need very soon in volatile assets. If the financial goal is less than 3-4 years, don’t invest in equity linked instruments. Go for safer options that might give lower returns but will not churn out losses. A bank deposit or a non-equity fund is a better option when saving for short-term goals.
Maintain the portfolio risk
Asset allocation is a key factor in determining returns. Investment advisors ask clients to periodically rebalance their portfolios so that the risk level is maintained. However, the rebalancing decision is not very easy because it requires taking a contrarian call. The investor has to get rid of assets that are doing well and buy more of the underperformers. Very few investors had the sense to sell when the Sensex rose above 42000 earlier this year, just as very few had the courage to buy when it fell 35 per cent in March. The rule is to set a target asset allocation with upper and lower percentage ranges. If these levels are breached, a portfolio review and even rebalancing may be necessary. Investors who doggedly follow their asset allocation will minimise their losses when markets fall and maximise their gains when they revive.(The writer is Managing Director of MyMoneyMantra.com. The views are personal)