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A portfolio makeover

Rajat must completely rethink his selection of funds to meet his financial goals

A portfolio makeover

Rajat (33) works in the financial-services industry. He has recently tied the knot. His parents, who are financially independent, live with him. His wife, Vibha (33), is also employed. Rajat's take-home salary is Rs 52,000 per month. He is also entitled to an annual variable, which is usually around Rs 4 lakh. Rajat has managed to create a portfolio of around Rs 24 lakh, which includes the EPF, PPF, mutual funds and stocks. He wants to go abroad on a vacation every second year, buy a new house, and save for his retirement and future kids' education.

Emergency fund
A good financial plan starts with provisioning for emergencies. Rajat should create an emergency corpus equivalent to six months' expenses. Since his monthly expenditure is Rs 20,000, he should create an emergency corpus of Rs1.2 lakh. He can keep this corpus in a mix of sweep-in fixed deposits and liquid funds. Doing so will help him earn a higher return on this amount while also maintaining liquidity. Rajat can find the top-rated debt funds on the Value Research website.

Action: Create an emergency corpus of Rs 1.2 lakh. Keep it in a mix of sweep-in fixed deposits and liquid funds.

Life insurance
Rajat has a pure term-insurance plan of Rs 1 crore, which is more than sufficient for now. He doesn't have any financial dependants. Neither does he have a financial liability to pay off. However, he is planning to buy a house with a home loan, which will add to his liabilities. He may continue to maintain the existing cover and re-analyse his insurance need once he buys the house.

Rajat and Vibha also have a few endowment insurance policies. Endowment plans provide neither sufficient insurance nor good returns. Also, their costs are high. The couple should consider surrendering these policies and investing the proceeds in mutual funds. For life insurance needs, term insurance is the best.

Action: Surrender your endowment plans. Revisit insurance needs once you buy a home.

Health insurance
Rajat has an individual health cover of Rs 8 lakh. Vibha has a mediclaim from her employer. It is never a good idea to depend solely on one's employer for health insurance as the cover ceases to exist when you leave the company. Further, a new employer will not necessarily provide the same benefits. Rajat should ask his insurer to include his wife in the same policy and convert it to a floater plan with the same sum insured.

Rajat's parents are covered through the Central Government Health Scheme. This is a very good scheme for expensive treatments. However, there is the possibility that the hospitals near his residence are not empanelled with the CGHS. Also, the scheme might not cover certain diseases. Rajat should check the coverage of the CGHS. He can then consider buying a senior citizen health insurance cover.

Action: Include wife in the existing health insurance policy. Check the coverage of the CGHS.

Retirement
The couple would need a corpus of Rs 4.71 crore to maintain their current lifestyle in their post retirement years, assuming an inflation rate of 8 per cent and a return of 9 per cent on the retirement corpus post retirement. Life expectancy has been assumed to be 85 years.

Rajat contributes Rs 4,000 every month to the EPF. An equivalent contribution is made by his employer. The EPF corpus would alone swell to Rs 2.86 crore at the time of retirement, provided his contribution increases every year by 10 per cent with his annual increments. For the balance, he can use his equity funds and stocks. It is assumed they will see a growth of 12 per cent annually.

Rajat has also accumulated around Rs 5 lakh in the PPF. PPF earns a low rate of interest and has a longer lock-in period. He should reduce his annual contribution in the PPF to just Rs 500 to keep the account active, and on maturity shift the proceeds to mutual funds.

Action: Reduce PPF investment to the minimum. On maturity, transfer proceeds from the PPF to mutual funds.

Buying a house
In four years, Rajat plans to buy a house worth Rs 1 crore today. He will have to self-fund at least 15 to 20 per cent of the value, and the rest can be financed through a home loan. For this he can use his current investment of about Rs 5 lakh in debt funds, along with a part of his annual variables accumulated over the next four years. Additionally, he can set aside around Rs 10,000 to Rs 15,000 every month for the down payment. This will reduce his home-loan EMI.

As a rule of thumb, the EMI for a home loan should not exceed one-third of your family income. Rajat should reconsider buying a house for Rs1 crore as the EMI is likely to breach this level. He should instead look to buy a house of a lower value to avoid any future financial distress.

Action: Reconsider the value of the house you want to buy.

Kids' education

Rajat wants to start investing for the higher education of a future child already. He has estimated the higher-education cost to be Rs 30 lakh in today's terms. He will need the amount in around 20 years from now. By then, this amount would inflate to Rs 1.4 crore at an inflation rate of 8 per cent. To achieve this goal, he should invest Rs 6,000 every month in an equity fund via a Systematic Investment Plan (SIP). Again, the SIP contribution should be increased by 10 per cent every year.

Action: Start an SIP of Rs 6,000 in an equity fund.

Vacation
Rajat wants to go on an overseas vacation every second year. He estimates the cost to be Rs 2 lakh in today's terms. This is a negotiable goal as he has to take care of other more important goals as well. However, he could set aside Rs1 lakh from his annual bonus every year for this purpose.

Action: Set aside Rs1 lakh every year from annual bonus in a short-term debt fund.

Funds
Rajat invests in seven mutual funds, which are a mix of debt, equity and hybrid funds. Seven funds are too many. Ideally, there should be only three to five funds in your portfolio. Having more than this makes it difficult to monitor performance. Also, one gets no additional diversification by investing in too many funds.

Rajat should therefore conduct a complete makeover of his portfolio. He should exit his lower-rated funds. Since he already has enough of a debt element through his contributions in the EPF and PPF, he need not invest in equity-oriented hybrid funds. However, he should invest in good short-term debt funds for his short-term goals. His current debt funds have low star ratings and hence should be replaced. He should add one ELSS and two to three good multi-cap funds to his portfolio.

Rajat should invest directly in equity only if he has the required skills and can devote time to research. Otherwise, he should switch his stock investments to equity funds.

Action: Give your fund portfolio a complete makeover. Invest in a tax-saving fund and two to three good multi-cap funds.