INTRODUCTION

Long-term investing is often the best way to build wealth that stands the test of time. It’s how you plan for retirement and build a legacy to pass on to your children and grandchildren. Long-term investments require patience, but they have the potential to pay off with a much higher return than the quicker-fix choice of short-term investing.

It’s important to approach long-term investing with patience. You aren’t going to see the quick increases in portfolio value that you might with short-term investing. Also, it isn’t always going to be the most exciting type of investing. Keep your eye on long-term goals like retiring, paying for your child’s education and passing on some of your wealth to your family.

In addition to your financial goals, make sure you’re thinking about how much volatility you can stand. Make sure to choose an asset allocation that aligns with your risk tolerance as well as your time horizon. Typically, the longer you have to invest your money the more risk you can afford to take.

STEPS TO FOLLOW

Here is a step-by-step guide to begin and track long-term investing.

1. Identify the goal, its time-frame and find out as accurately as possible how much it will cost today (i.e. when you start investing).  

2. Assume a reasonable inflation rate (not the historical average). The higher the safer.

3. Using 1 and 2, determine how much the goal would cost at the time of need.

4. Determine how much you can invest after taking into account: expenses, loans, investment towards retirement (always the no. 1 goal).

Read here why Retirement is the MOST important goal.

5. Estimate how much this investment amount will increase (or decrease!) in future. If after a loan payout, you can invest more, take this into account.

6. You can now determine the average rate of return required. Average here refers to the weighted average of returns from equity and debt instruments. The equity and debt returns themselves represent the expected compounded annualized growth rate (CAGR: a geometric average)

7. Depending on the time frame decide the debt instrument. If your goals if 15 financial years or more away then PPF is a good tax-free investment. You could also choose a debt fund like an ‘income’ fund. Estimate the post-tax return (say approx. 8% for PPF and 6% for a debt fund).

8. Decide on appropriate equity exposure. This is how I would do it.
  • For goals 15 or more years away: 50-70%
  • For goals 10 or more: about 40-50%
  • For goals 7 years away 20-30%
9. From 6, 7 and 8 the returned from equity needed can be estimated.
  • Anything more than 12% irrespective of time period is risky. Unless you have a good understanding of the market such returns it is best not to assume such high returns.
  • 12% only for time periods well above 10 years.
  • Anything less than 10 years expect something like 9-10%
10. If the equity return is too small and if the inflation rate assumed is reasonable you can afford to decrease the monthly investment. If equity return is anything more than 12%, it is best to lower it, irrespective of duration and perhaps expertise. In this case, the investment has to be increased as much as possible.
  • Initial monthly investment could be increased and/or
  • % by which investment will increase annually (from year 2) can be increased and/or
  • Additional investment a few years down the line can be considered.
11. If you have increased the monthly investment as much as you can and still find the equity returns still unreasonably high, then
  • Consider postponing the goal if possible
  • If postponement is not possible then the goal can only be met partially
12. If the goal can only be partially met, estimate the corpus that can be obtained with a reasonable equity return. The shortfall will have to be met with external funding.

13. Finally, you are ready to start investing. Spend no more than a week’s time to get going. If you do not have the time or inclination to have a personalized investment strategy, start a SIP.

You can afford to relax for the first few years. In the meantime, consider learning about
  • Portfolio Re balancing
  • How to review a mutual fund portfolio
  • How to Review Your Mutual Fund SIPs
Assume reasonable rates of return for equity and debt. The sooner you start the lower your return expectation from equity. The more you can invest the lower your return expectation from equity.

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