"How much money will be required by the time my child turns 21? What savings options would work best for me to generate so much money?” Do you lose you sleep over these questions? Read on for answers.
By Karthik Rangappa
Ensuring that children are financially secure in future is one of the top priorities for parents. It is quite natural that, at some point, questions related to this responsibility arise, and there is confusion about the right investment choices to make. I’m a parent myself and I have gone through this situation. Trust me, saving money efficiently hinges upon two things, both of which are in your control – time and discipline.
My aim in this article is to point you in the right direction for saving and creating wealth for your family.
Let us take discipline first.
If you were to think about ‘savings’ in terms of a mathematical expression, how would you put it? Most likely you would say Income – Expense = Savings.
If we go by the above equation, we are essentially prioritising expenditure over savings. Many people end up spending significant amounts on lifestyle accessories - an overpriced phone, for instance, or a fancy handbag. There is no harm in giving in to your desire for something new, except that it eats into the ‘savings’ portion of your financial plan. This leads to two serious problems – savings are below potential, and inconsistent.
So how do we deal with this? Quite simple - we just need to rearrange the equation to read: Income – Savings = Expense.
By rearranging the components, we are essentially prioritising savings over spending. This means that the moment the salary is drawn, funds should be diverted towards savings. Whatever is left over is to be spent. Adopting this approach as a way of life requires tremendous self-control and discipline. It implies that you cannot pick up a fancy phone just because it makes you look fashionable. You will be forced to sacrifice instant gratification for a bigger benefit which you will be able to enjoy many years later.
The second important aspect is time. The sooner you start saving, the better for you and your family. I regret not doing this myself. My elder daughter is six years old now. I started saving for her only from her fourth birthday onwards. I wish I had not wasted the initial years.
What difference will a few years make, you may ask. Let me tell you a story to help you understand the enormous impact of time on savings.
A father gives his three young daughters pocket money of Rs. 50,000/- each, every year, for life. They are free to use this money in any way. They are also given an option to invest it in a 10% interest-bearing instrument, with the condition that the investment should not be touched till their 65th birthday.
Here is what each daughter does with her money –
Given that the investments grow at the rate of 10% year on year, can you guess how much each daughter will have when she turns 65? The answer may surprise you.
So, starting early in life makes a huge difference.
I was not smart enough to start saving right from the time I was 20 years old and I’m guessing not many reading this would have done so either. Given this situation, what do you think is our best option now?
Well, here is a bitter pill – we now have to do what the youngest daughter did, because her investment strategy resulted in the second-best result. To generate a significant amount of wealth for our families, we have to save continuously.
There is a twist, though – the only thing that can compensate for lost time is higher ‘Rate of Return’. So essentially we should look at investing continuously in instruments which can yield higher rates of return.
This leads us to the million-dollar question – where should we invest?
Before we get into that, let me tell you what most parents do in pursuit of the goal of ‘saving for the child’.
So, what are the other investment options at your disposal? Here are a few:
As you may have realised, the portfolio I’ve suggested is skewed towards equity. I believe that over the next few years, equity as an asset class will outperform every other asset class in India. Good luck!
Karthik Rangappa is the Vice President, Educational Services, Zerodha.
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