Making the right assumptions

When we start investing for our future we make certain assumptions and then arrive at an amount to be invested to achieve the financial goal. Even if one of the assumptions is wrong, our whole planning would go for a toss. Hence it is very important the we arrive at the right assumptions. What are these assumptions? The assumptions would be

Future costs

How do you arrive at the future costs? Well you are right; first take the current cost into account. Then take into account increase in cost, depending on the number of years into the future you would be looking at. To arrive at increase in cost, we would have to look at inflation rate. Inflation rate is the rate at which the costs are rising, this can be easily got. Depending on the time horizon, it is always better to be conservative. So if you are looking for costs 7 years from now, first find out what was the inflation rate for the past 7 years and take the worst rate i.e. the highest rate.

So even if the inflation rate has not been bad you will be safe, but if the inflation rate increases at anytime beyond what you have assumed, you will have to reassess your future costs take the new costs and inflation rate for the remaining period.  The other part which most of us miss if forex rates. This is for those who have to arrive at future costs in a foreign currency. We should use the same method as we had done earlier for inflation. Find out from the past what was the worst exchange rate and apply it. If the rate goes beyond that, recalculate.

Investment

Once we arrived at the costs, we need to start saving, but how much do we save, is it total future costs divide by the number of months left to arrive? No, as whatever you invest you would be getting a return on it. So you should invest in such a way as you would get the maximum return. This way, you will have to save less or should I say suffer less, since for every extra rupee you have to save, you will have to cut your budget somewhere else. So taking the time horizon, you can decide on the type of investment.

If you have assured rate of return for the investment horizon, your calculation becomes easy. If not you would have to check the past for getting the estimated rate of return and here too, it’s best to be conservative. Another option is go for 2 or 3 different types of investment, this way, you diversify your risks. But this is best when the amount required is high. When you invest you get returns, please do not take absolute returns but post tax returns or else depending on the tax slab you are in, you would end up short to that extend.

Other goals

As you have done the planning for one goal, you also need to plan for your other goal. Else you would have the money but not be able to use it for that goal as some other goal becomes important. So taking the life stages of all members of the family you should do your planning for all the goals. Yes, it is a cumbersome exercise, but then it’s worth it. During your planning if you think, that you have to cut too many corners, have a relook at your goals and see if you really need those goals or some of those can be skipped.

Yes, some of the goals can be skipped; it might not be worth having a goal of visiting USA for which you have to like a paupers life for next 10 years.

Future Income

We made our plans and arrived at a figure to be invested every month to be invested, but for that you should have the money in hand. So while planning, take into account your future sources of income and expenses. What would happen if you do not get the expected rise in salary and to add to it cost would keep going up because of inflation? So take into account the expected net saving in the coming years after considering potential income and rising expenditure.