At present, NPS subscribers who opt for Auto Life Cycle Fund can have equity allocation of up to 75% in equity.
The Pension Fund Regulatory and Development Authority (PFRDA) has proposed raising the equity investment cap under the ‘active choice’ of National Pension System (NPS) to 75% from the current 50%.
In a discussion paper issued recently, the authority has said that the proposal has been mooted in view of the demands from subscribers to allow more equity exposure for their investments. At present, NPS subscribers who opt for Auto Life Cycle Fund may allocate up to 75% in equity whereas in case of ‘active choice’ subscribers may invest up to 50% in equities.
So, how wise are subscribers in asking for such a high level of equity investment for their retirement corpus given the risks associated with the asset class? And if the pension regulator allows the higher limit, who should be opting for the highest equity limit of 75 per cent?
Leading personal finance advisors believe that though equities are good for the long run, a high equity component of 75% or around that level should be avoided by those who have only a few years left to retirement. “The young should have a higher part of their investments earmarked for equities. A 75% equity exposure would be a fine allocation for a person before the age of 40, with about 20 more earnings years ahead. Ideally the investments would be in the regular, or SIP mode to avoid the common tendency to enter markets close to the peaks, based on momentum,” says Anil Rego, Founder and CEO, Right Horizons.
Rego said those who are risk-averse should not have such a high portion locked in equities. “Closer to retirement and beyond a person requires cash flow from investments to replace regular liquidity from salary. Such liquidity cannot come from equities, but rather be from fixed income investments. Equity would be a relatively miniscule part of the allocation with advancing age,” he said.
However, he was quick to point out that equity should not be ignored altogether. “No investor should avoid equity, whatever his age or situation. The quantum of equity in a person’s portfolio should be a personal choice, or be decided by the specific financial situation of the person. The valuations of the market should also have a bearing on the exposure as buying when stocks are expensive is a natural instinct and therefore not suitable for retirement planning.
The young especially should have a higher part of their investments earmarked for equities. Closer to retirement and beyond a person requires cash flows from investments to replace regular liquidity from salary. Such liquidity cannot come from equities, but rather be from fixed income investments. Equity would be a relatively miniscule part of the allocation with advancing age, and receive only money that is not earmarked towards any goal.
Arvind A Rao, Founder, Arvind Rao and Associates, also feels that the high equity component in their NPS corpus can work well for the younger subscribers. “Investors in the age group 25-45 years should be the ones who should opt for the highest equity exposure and people whose retirement is due within next 6-8 years should avoid the highest option,” he said.
Rao feels that the life-cycle fund with 75% equity may work better for investors who are not sure of how to decide their asset allocation in future “The life-cycle fund with 75% equity works best for investors who do not want to actively determine their asset allocation patterns and would prefer to stick to thumb rules and life-cycle based asset-allocation strategies,” he said.
Amar Pandit, Founder & Chief Happiness Officer of HappynessFactory.in, feels one should determine asset allocation on the basis of goal and not on age. “Asset allocation is not a function of one’s age but it is about need. If retirement is a long term goal (i.e. at least after 7-10 years), one can definitely keep higher allocation in equity. This is because equity markets can be volatile in short to medium term but tend to perform well in the long run,” he said.Equity is suitable for investors with long investment time horizon and those who have the risk appetite to handle short term fluctuations and volatility, he said.