Investing requires a target. The future needs of our family or financial goals serve as natural targets. Goal-based investing is a process in which invest according to the needs of the goals. The amount to be invested and where it will be invested will depend on the nature of the goal.
Once the goal based investing journey starts, the next step is to learn: how to track financial goals.
As always, what follows is based on “what I would do". You are free to critique it. My view towards money management and personal finance is: do what you are comfortable with and ensure minimal maintenance and stress.
I perform a financial audit once a year. You can check the 2013 audit and the2014 audit and how to conduct a personal financial audit for more details. What was a most enjoyable, manual audit has now been reduced to an automated and unromantic audit, thanks to the Automated mutual fund and financial goal tracker.
Essentially tracking a financial goal has three key components:
(a) Have I invested enough for this goal in the past year? You could use this monthly financial tracker for this purpose. How much we invest is to an extent in our hands and independent of a financial instrument.
(b) What is the current value of goal portfolio? What is it worth? What is the net XIRR of the equity component, debt component and total portfolio -trackers like Perfios, VR online will give you this. So does mine, but only for mutual funds.
(c) Considering (a) and after taking into account the values in (b) with a goal planner, what should be the new monthly investment amount for the coming year (or from now)? Before we discuss (b) in detail, I think it would help to point out that,
the simplest way to track a financial goal is to use a goal planner once a year, every year and montior the investment amount needed. If after a few years of investing as per the results of the goal planner, the amount you invest is lower than or at least equal to what the planner outputs during a review, you are doing fine.
That is, say in 2016 you need to invest Rs. 15,000 a month for your child’s education increasing at the rate of 8% each year. You start such an investment. After 5 years, you should be investing, 15000*(1+8%)^5 = 22,040 each month.
Say, after the 5th review, for the same return and inflation assumptions, and taking into account the current value of your portfolio, the investment amount required is equal to or less than 22,040, you are doing fine. The assumption here is that the portfolio return is more or less close to your expectations (or you maybe investing more!). May not always hold good though.
If you find this hard to understand, please use a goal planner or better still my financial planning template and look at the cash flow chart.
Now for (b): Fretting about returns can quite stressful. I would prefer looking the value of the corpus, once a year. How much is it worth? For example, my son is about 5.5 years old. The corpus for his education is enough to enroll him in an Eng degree at today’s expenses. Which is not bad at all. See more about this goal here: Long Term Goal-Based Investing – Part II
Similarly, wrt retirement, I ask,
If I retire today, how long can I manage without income? How far away is my financial independence ? See more here: Review Your Retirement Portfolio in Seven Easy Steps and
Personally, when I gauge the worth of a folio like that, I do not feel the need to focus on returns too much. The reason is that, sometimes we need to wait for the net equity returns to exceed our expectations. This may take a few years. So no point stressing over it.
Whether we monitor value or returns, I think we should gradually begin to derisk the portfolio even 5-6 years before we need money.
- If after 7-8 years of investing for a 15-year goal, equity returns are well above expectation, it would be a good idea to significantly reduce equity exposure.
- A sideways market of a few years at the start of the investment tenure can be handled with patience. Such movement during the middle of the investment tenure can be tricky to handle. It has to be decided on a case by case basis: what to do with existing equity holdings? What to do with future investments – more in equity or more in debt etc. These are tough calls.
The amount of ‘risk’ we choose to take will also depend on the goal. Personally, I prefer to be conservative when it comes to my sons education compared to his marriage goal or my retirement For these reasons, I prefer having independent portfolios for each goal. Read more: Are all long-term financial goals the same?
- use a goal planner each year, calculate each year, the net value, net XIRR of your portfolio and investment amount for that goal in future. These are the basic goal tracking indicators.
- Exit out of volatile instruments, well before you need the money.
- If you have a bumper year say 6-7 years before the goal, shifting profits to debt is not a bad idea at all.
- Yearly reviews will help you take decisions when the market is moving sideways for a ‘while’.
- Returns do not matter! Whether you have enough money for meeting an expense matters. So tactical calls based on the requirements of your goals are crucial. This is not as hard as it sounds. Just track the parameters mentioned above and you will have a better idea about the future course of action.
- Retirees must also review their portfolio and use a retirement calculator, each year in retirement.
- A long term goal is not always a long term goal! After a few years of investing, it becomes an intermediate term goal and then a short term goal. So appropriate derisking is essential.
Financial Goal Tracking Tools
Here are the visual goal trackers developed so far.
Do try these out and let me know if improvements can be made.