Dhirendra, lot of people are in a fix as the interest rates on fixed deposits have come down. They depend heavily on interest income for their expenses. What is the reason behind the interest rates coming down?
Dhirendra: Interest rates have been coming down over a period of time. They are linked to inflation. And for the first time in many, many years, it has happened that Indian investors are getting positive returns from fixed income. The return on fixed income is more than inflation as calculated by the government. Earlier, we used to see high interest rates, but they were generally a little bit more than inflation. So effectively, your earned money was not going up in value.
Given the current scenario, I think we are in for a phase where interest rates will come down. Interest rates will come down because the government started targeting inflation and that's actually right for the government. Maybe inflation will not come down to zero, one or two per cent as in the developed countries, but even if it stabilises at the current level, then interest rates are bound to come down substantially. If the interest rates come down substantially, all the old people who have been relying only on fixed-income products like fixed deposits and the PPF will be in a fix. Because their income will come down dramatically but their expenses won't.
So what is the solution?
Dhirendra: The only solution is to have some equity in your portfolio. It will help you get higher returns and in a way, increase your income. But it is a very difficult thing to invest in equity for someone who has never invested in it before. Someone who has always relied on PPFs and fixed deposits over the last 30-35 years would be completely unaware of the 'risks and rewards' associated with equity.
But even if you start acclimatising to it in a calibrated way, maybe five years before retirement, it will be very rewarding. The problem is that people don't comprehend its reward. And in the given scenario, you cannot do without the kind of return equity generates. So one must get used to equity at least five years before retirement. And then the withdrawal rate should be conservative.
Is it that one also has to get out of the 'fixed deposit' mindset?
Dhirendra: I'm not saying that do away with fixed income completely. Having some allocation to fixed-income products like the Senior Citizen Savings Scheme is also important. You need to have both fixed income and equity in a particular ratio. And this ratio depends on the function of how much money you have and the scale of income you want to generate out of it.
Suppose you have Rs five crore and only need Rs five to six lakh a year, you have all the freedom. Because even in the worst case, you would be able to generate the required amount. But if you have Rs 50 lakh and definitely need Rs 3.6 lakh a year, then you need to think differently. Otherwise you may run the risk of outliving your savings.
In such a situation, maybe 25 per cent in equity and 75 per cent in fixed income would work. When it comes to fixed income, the first 15 lakh should be invested in Senior Citizen Savings Scheme. It is the maximum an individual can invest in it. Senior Citizen Savings Scheme carries the sovereign guarantee. If our country prevails, there is no doubt about the safety of getting your principal back and the interest on time. The second option should be the post office monthly income scheme or the Pradhan Mantri Vaya Vandana Yojana (PMVVY). PMVVY is managed by LIC and yields 8 per cent. You can invest 4.5 lakh in post office monthly income scheme and another 15 lakh in PMMVY for your guaranteed income need. These three are highest yielding and safest fixed-income products.
Try to leave that 25 per cent of equity untouched at least in the initial three to four years. Try to manage with the income generated from the fixed income. Curtailing your expenses in the initial years may do wonders. The growth in equity will help you take care of inflation-adjusted income. Three to four years down the line, you may need a higher capital to generate a similar kind of inflation-adjusted income. At that time, the appreciation in equity can be used to replenish the capital. So one must consider having at least some part of one's portfolio in equity throughout retirement.
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