So, you want to have a house worth Rs. 1 Crore (for investing of course, who buys a house for living these days! ) or you want to go on a foreign tour? Or you want to have more than just sufficient money when you retire? No, these are not well defined financial goals! Then what are?
A well defined financial goal
Whenever you are planning to save money for a goal, following are two key parameters which need to be set to make that goal a "financial goal":**finance lecture starts here**
1. Goal value
Wanting to go on a foreign tour is a goal, but it is missing the amount associated with it. A foreign tour might cost you Rs. 30,000 or it might also cost you Rs 300,000. Here, you will need to figure out how much your foreign tour will cost. Similarly, having sufficient money after retirement does not specify the amount of that 'sufficient' money. 'Having the ability to spend Rs. 100,000 per month after retirement', is one way in which value for this goal can be specified. Or the other way is, 'having sufficient money in order to have a lifestyle that costs Rs. 50,000 a month today'.
The amount or the value of goal guides the calculation regarding the amount you need to save, quite obvious, right?
2. Time horizon
Purchasing a house, but when? after 2 years, 5 years or 10 years? Similarly, going for a foreign tour after how many months? , or years? And, when are you seeing your retirement? At the age of 40, 50 or 60? Figuring out the time period you have to save for a goal is very very very crucial! (btw, no intentions to hurt the sentiments of people who love their work and plan to never retire)
The time period to save for a goal has a major role in deciding the financial instrument or investment option where you will invest your money. Investing in stock markets or anything related to equity such as equity oriented mutual funds for a goal with 2 year time horizon won't make sense. Investing in equity for short term is like going all in with just a pair of two in Poker. For those who do not know Poker, we meant that it is too risky! On the other hand, for a goal like retirement where you might have 25-30 years to save, investing in equity related schemes would make more sense (yeah, it's like raising the bet when you have a full house). Equity grows in the long term absorbing all the short term fluctuations. For a short term goal, it would make sense to invest in deposit schemes of banks, post office or debt oriented mutual funds. They offer you a fixed rate of return and risk is minimal.
**finance lecture ends here**
Apples vs Oranges
Here, we also want to make an important point. Comparing fixed deposits with mutual funds or comparing public provident fund (PPF) with stock markets is comparing apples with oranges. We have all kinds of investment options available in the market, and they all are meant to serve different purposes. Most people won't take the risk of going in informals for an interview at an established company, but might take this risk in case of a startup (as startups are supposedly 'cool' :) ). Anyways, the point is, the best suited scheme for you will depend on your 'financial goal', defined by its value and the time period. We will be talking more about this in subsequent posts.
But, what if value of my goal changes over time?
Very true! The value of your goal will indeed change with time. A house costing you 1 Crore today might cost you 1.6 Crore after 5 years due to ever increasing real estate prices. The lifestyle which you are able to afford today in Rs. 50,000 per month, might cost you about Rs. 300,000 per month after 30 years, again due to inflation. Inflation, which is rise in prices of things we consume, is the variable which can never be ignored while setting a financial goal.
Am I an economist or what, how would I predict the inflation?!
No, you are not expected to predict inflation. Stay tuned with us :)