There's a certain magic in "goal based investing" compared to making ad hoc investments. Before you start a new investment, ask yourself: "What exactly are you saving for"? This is a serious moment of introspection!
In order to invest, you'll be cutting back on current spending. There must be some future purpose for this sacrifice-an objective whose importance outweighs the pleasure of today's spending.
Goal-based investing is not just "another fancy way" of saving money-numerous studies have started proving that it is critical for maximizing how effectively you manage your money and investments.
"Goals" are a personal budgeting mechanism which has been around for centuries! Remember your Grandmother's old system of separating money into tin cans - one for clothes, the other for groceries and the other for buying gifts? That's the exact same rationale behind goal based investing. By separating your savings into buckets for clearly defined future objectives, you'll be reaping multiple benefits. Here are a few:
1. Less "out of pocket" outgoBy identifying long term goals and saving for them in advance, you'll actually be saving a lot less out of your pocket over the long term. For example - 5 Crores may seem like a daunting sum to put together for your retirement. But a saving of just Rs. 14,306 per month for 30 years (assuming a 12% return) will lead to the accumulation of a 5 Crore corpus - from an out of pocket saving of just 51.5 Lacs (a growth of 9.71 times the "out of pocket" outlay)
2. Better returnsA very natural outcome of goal based investing is that you'll wind up saving into more aggressive asset classes for longer term goals, and into less volatile asset classes for shorter term goals which are say 2-3 years away. In doing so, you'll automatically be matching your time horizon to your asset allocation. This approach ensures that your money grows at an optimal rate based on the risk level that is appropriate for a particular time horizon.
Even if markets go south for a while, you'll be able to put the situation in perspective by telling yourself that you still have many years to go for your goal, so why worry? Coincidentally, such behavior is also the cornerstone of investing success.
3. Tangible outcomesThere's a concept called "affect" in behavioral psychology, which hypothesizes that we are far more motivated by tangible outcomes than by random numbers. For instance - knowing that "you have Rs. 2 Lac saved up" isn't half as exciting as knowing that "you have Rs. 2 Lacs saved up for your daughter's education"
This is why when you can attach a real outcome to the purpose of your saving; you're far more likely to actually work towards building your corpus rather than saving blindly without an objective.
4. Guilt Free SpendingIn today's inflationary era where a single trip to the mall could set you back by Rs. 5000, it's easy to start "guilt tripping" about spending your hard earned money. Surprisingly, Goal Based investing takes the guilt away from spending! Because of the 'back of the mind' awareness that you are saving enough to meet your long term goals for yourself and your family, you'll no longer feel uncomfortable about spending money for your own personal needs.
5. Saving of InterestHere's a tip - avoid debt like plague! Over the course of our lifetimes, we end up incurring Lacs (if not Crores) of debt - Car Loans, Home Loans, Personal Loans, Education Loans, Credit Card Debt and what not!
By setting goals in advance, you'll be able to exit the vicious cycle of "fulfillment of desires" followed by "endless months of debt repayment". You'll be able to own your home quicker, pay for your child's education as a lump sum, and retire as an independent senior citizen free from financial worries.
A final word of advice: if you want your Goal Based investment to succeed, stick to your Goals resolutely. Do not liquidate your child education fund for a home purchase down payment. Postpone the new car booking rather than drawing upon the 2 Lacs you've saved up painstakingly for your retirement. Keep your SIP's running even when you're facing temporary financial headwinds. Do that, and you'll be well on track to achieving Financial Freedom!