THE reason why we plunge into the equity market, time and again, is to whip up obscene profits. And the price for our rash attempts, more often than not, is financial and emotional upheaval which can lead to bankruptcy.
Of course, equity markets can offer the highest returns and this cannot be ignored. So, is there a way by which one could still invest in the markets without taking the high-risk pains? The answer to this lies in a theory in behavioural finance — goal-based investing (GBI). As per GBI, the investment criteria shifts from beating a benchmark return — as is done under the traditional investment methodology (TIM) — to fund a particular personal financial goal.
In TIM, the objective is to stay invested till one reaches his profit goal (or stops losses), while in GBI, the investment purpose is to fund a particular financial goal by creating a certain corpus in a given number of years. The resultant change in financial behaviour is a periodic check on investments to check their progress towards building that corpus, as against a continuous check to see whether the target profit has been reached. Hence, the rashness in making financial decision is completely cut off since profit-booking is no longer the investment motive.
Under TIM, the wealth manager seeks to create a single wealth corpus with a single asset allocation strategy. Financial goals are seen as a single figure irrespective of their time horizons, whereas the GBI approach seeks to identify financial goals and club them into various pools essentially on the basis of the number of years to that goal. Thus, under GBI, there would be multiple investment strategies for multiple financial goal pools.
Now, imagine life's various financial goals as empty buckets which need to be filled with resources to eventually reach those goals. Your existing net available resources (financial assets or secondary real estate) will first be allocated into these buckets (long-term assets over long-term goals and vice-versa). The shortfall in these buckets is then analysed in terms of the time horizon of goals and their importance. Next, your future resources in the form of projected net earnings to retirement will now be allocated into various investment products in such a manner that the short fall in the buckets are filled up, thus deciding the type of investment mix that each bucket would need. Needless to say, the shorter the term for the goal, lesser the risk in the product chosen. So, the money earmarked for a goal that's just one-to-two years away would be safely stowed in high-quality debt.
Initiate a goal-based investment approach by enlisting your financial goals. Philosophically speaking, it culminates into a list of all that which gives you a feeling of a life well lived. Do an internet search for the costs involved for each goal and adjust them for a rational inflation rate based on the number of years to each goal.
With a goal-based investment approach, now embark on creating an asset pool by allocating each of your net investments to a particular goal pool. For the shortfall, create an investment strategy that you are comfortable with, in terms of risk tolerance and available cash surplus for each of the goal pools.
Now that you know the target return, you need to work for each of the asset pools and balance this with your risk tolerance. It's quite likely that you may have to compromise on some goals temporarily due to shortages in risk tolerance or income. In many cases after much soul searching, we realise that our aspirations are not matched by our investment style or risk profile. This might also prove to be just the thrust that you needed for bettering your career prospects.
