Track and Budget your Rupees

The first step to improve something is to measure it. Before you start to plan anything, start tracking your money. Inspect your bank and credit card statements for the past 2—3 months, and see where the money is going. Categorise your expenses, and on the basis of your spending patterns, create a budget.

Do not go overboard with cutting your expenses. Start making small changes, like your Zomato orders. Do not, and I repeat, do not try to live like a hermit. You want your budget to be something that you can follow in the long term. Make sure to cover as much details in your budget as possible, a 30% allocation to “Miscellaneous” is no better than no budget at all.

Your budget needs to account for every rupee that comes into your account. Each rupee must either be allocation to a spending, saving, or an investing goal. Untracked money is lost money.

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Wealth is the ability to fully experience life.

— Henry David Thoreau

Create an Emergency Fund

An emergency fund is the first step towards “Fuck You” money. In the beginning, focus on putting every paisa you do not spend in your emergency fund, until you have 3—6 months of expenses in the fund. A major issue with most investors is that they do not have a big enough emergency fund, so in case of emergencies, they need to withdraw from their investments, even though the timing might not be great. An emergency fund is your shield against medical emergencies, unexpected job loss, a bike repair, and anything else life might throw your way.

Where To Store the Emergency Fund?

While opinions differ, here is what I suggest:

1. 1 month of expenses should be kept at your house, in cash.
2. Next 2—3 months of expenses should be in a bank FD.
3. Rest of the money can be put in an arbitrage or liquid fund.

This strategy protects your emergency fund against black swan events like demonetisation, as well as things like bank failures, while providing enough liquidity to tide your over. Never use stocks, credit cards, line of credit/overdraft, or anything which is volatile, or can be taken away from you without any warning.

Debt

For many of us, debt is a reality of life. My philosophy is to stay away from debt as much as possible, and only take on debt for appreciating assets such as a house, where the rates are reasonable, and my expected value out of the transaction is more than what I would pay in interest.

If you have any high interest rate debt, such as credit cards, or personal loans with interest rate more than 12% per annum, paying that down would be the most prudent approach instead of investing. Otherwise, you’d lose more in interest than you’d get in returns. My advice in this situation is:

1. Build up an emergency fund worth 1 month of expenses.
2. Start paying off the high interest debt with the money left over after expenses.
3. You can try consolidating the debt to lower your rate of interest, or take help from you friends or family.
4. Once all high interest (>12% per annum) debt is paid off, build up the 6-month emergency fund.
5. Start investing only after the above steps are complete.

A one-month mini emergency fund helps stop you from going into more debt due to real emergencies. You do not want to borrow any more money that can lead you deeper into debt. Once the pressure of the high interest debt is off, you can ease up a bit, and start investing.

You can leave the low interest debt, such as home loans, running, since you’re likely to make more money investing than what you’d pay in interest. The only exception I make to this rule is for any money you might have borrowed from your family and friends. They are not running a lending business, and they have put their trust in you by giving you an interest-free loan when they could’ve used it for something better. Do not take advantage of their generosity, and pay them back once you’re free from the high interest debt.

EPF and NPS

EPF and NPS are the foundations to build a comfortable nest egg for your retirement. For EPF, contribute as much as you can to get an employer match. While the current rate of interest on EPF is 8.25% (as per the current cycle), an employer match means you get a 100% return on your contribution effective immediately. Combined with a favourable tax treatment, and sovereign guarantee, it’s an excellent choice for retirement funds.

Similarly, NPS can be a good choice if you also want the benefits of holding equity in your retirement portfolio. It can be a great tax—saving tool if you are in the highest tax bracket. The illiquid nature of these investments also work in your favour. When you are starting out on your investing journey, you are bound to make mistakes. A good EPF and NPS corpus ensures no mistake can wipe your whole retirement, and you can sleep peacefully at night.

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Expect the best, plan for the worst, and prepare to be surprised

— Denis Waitley

Saving for Other Expenses

Now that you’ve started earning adult money, it’s natural that you will have lifestyle goals, and family responsibilities you need to save for. Categorize these goals according to when you’re going to need them, and choose a saving strategy as mentioned below.

Keep reviewing your goals every year, and as you get closer to your goal and the expected time of the expense, keep moving them to the appropriate category, and rebalance.

Within the Next Year

For expenses which are going to arise within the next year, you cannot afford to take volatility risks. Park these savings in safe, fixed income products, such as Fixed Deposits, arbitrage funds and liquid mutual funds. These are mostly safe and liquid products, where you can expect steady returns, and withdraw whenever needed. Do not chase returns here, as an extra one or two percent gains are not really going to move the needle in less than an year.

Within the Next 1—3 Years

For expenses which are expected in the next 1 to 3 years, you can begin to take some volatility risks. While the majority of these savings should still be in low volatility products as in the previous section, you can begin to look into bonds and bond funds, whose maturity duration aligns with your expense requirements. Once again, do not take equity risk for these goals.

Within the Next 3—7 Years

For the medium—term goals, you can start to have some equity, and high volatility debt exposure. You can start with a 50/50 debt/equity portfolio. In the equity section, you can pick up a low cost, large cap index fund, and you can go with a high quality medium duration debt mutual fund.

Beyond 7 years

For goals beyond 7 years, such as your kids’ educations, wedding expenses, saving for a house, you can go all in on equity, with some bond mix as per your preference. You can take long term risks in this bucket, and your portfolio for this goal should look more like a standard 70/30 or 60/40 equity/debt portfolio.

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Do not save what is left after spending, but spend what is left after saving.

— Warren Buffett

Saving More for Retirement

Once you have a locked-in, employer-matched retirement portfolio set up, it’s time to re-assess how much would you actually need for your retirement. You can use any online retirement corpus calculator to see how much you’d need in your golden years, and if your EPF and NPS investments are enough. If your EPF and NPS investments are falling short of the required funds, choose long term investment products, such as equities and bonds, to save for your retirement. Keep these investments separate from your other savings, and try not to touch them before you retire. This portfolio would look similar to the one you make for goals which are more than 7 years into the future.

If your budget is exhausted by your expenses, and savings for shorter term needs, its acceptable to put the retirement investment on hold, as long as you pick up the slack once the shorter term needs are met. Remember, time is your friend. The more time you stay invested, the more time your corpus has to grow.

Final Thoughts

Money is ultimately a tool to buy you the most valuable asset of all: time. By following this guide — securing your present with an emergency fund, clearing your past through debt repayment, and investing in your future via equity, you are building a life of freedom.

It’s a marathon, not a sprint. Take it one rupee at a time.