Let it soar or go safe but slow? How should you invest your inherited money

Inheriting money is a significant and emotional event, and it’s natural to want to grow it while keeping it safe. Here are several ways to achieve a balance of safety and growth. Here are some investment options to consider: 

 Emergency Fund (Savings Account or Liquid Funds)

• Purpose: First and foremost, keep a portion of your inheritance as an emergency fund for unforeseen circumstances.
• Safe Option: A high-interest savings account or liquid mutual funds can be ideal. These options are low-risk and offer easy access to your funds.
• Recommended Return: Around 3-5% per annum in savings accounts and around 4-6% in liquid mutual funds.

Abhishek Rana of Value Research offers two approaches:

 

1. The 'Safe but Slow' Approach

For those who prefer a conservative and steady approach, the Post Office Monthly Income Scheme (POMIS) could be a viable option. This government-backed scheme provides fixed monthly interest, making it an ideal choice for individuals seeking a predictable, low-risk income stream.

 

What’s Good About POMIS?

Safety: The principal remains secure since POMIS is backed by the Indian government.

Consistent Income: You will receive monthly interest, which you can use for living expenses or invest further.

 

What’s Not-So-Good?

Limited Growth: The growth potential of POMIS is limited because you can only reinvest the monthly interest, not the principal. This means that while your money is safe, your wealth doesn’t grow as quickly as it could through other investment options.

 

Example: Building a Corpus with POMIS and Equity Mutual Funds

Let’s consider you invest the maximum allowable amount of Rs 9 lakh in POMIS. At an interest rate of 6.6% per annum, you would earn approximately Rs 5,940 per month. Instead of spending this interest, you could channel it into more aggressive investment options like equity mutual funds, specifically aggressive hybrid funds, which typically offer higher returns compared to traditional fixed-income investments.

 

If you consistently invest the monthly interest in an aggressive hybrid fund for the next five years, your initial Rs 9 lakh would grow to around Rs 14 lakh, assuming an average annual return of 12%. The amount would be  around Rs 23 lakh in 10 years and nearly Rs 41 lakh in 15 years. If you instead invest the interest into a pure equity fund, like a flexi-cap fund, you could accumulate over Rs 14 lakh in five years, nearly Rs 25 lakh in 10 years and over Rs 47 lakh in 15 years. 

"Secondly, inflation can silently erode your purchasing power over time. So, the Rs 14 lakh accumulated in five years would have a reduced purchasing power of just Rs 10.46 lakh, assuming inflation at 6 per cent p.a. Similarly, Rs 23 lakh accumulated in 10 years and Rs 41 lakh in 15 years would be worth only Rs 12.84 lakh and Rs 17.10 lakh, respectively, in today's terms," said Rana.  Option 2: Let it soar   Rana believes the other option is to shift the inheritance money to an equity-focused mutual fund. However, many people are hesitant to invest 100% of their inheritance in equities due to the inherent market volatility and risk involved.

 

A balanced approach can be achieved by investing in aggressive hybrid funds. These funds are a mix of equity and debt instruments, typically allocating 65-80% of their assets in equities and the remaining 20-35% in safer debt securities like bonds. This mix allows you to benefit from the growth potential of equities while also having a cushion of safety through debt investments, which help reduce the overall risk. 

"The same Rs 9 lakh amount invested in an aggressive hybrid fund would have grown to Rs 18 lakh in five years, Rs 26 lakh over 10 years and over Rs 50 lakh in 15 years. At this point, you might think, "Wait, isn't the stock market risky?"

Yes, it is. But here's the kicker: time is the ultimate risk mitigator. Over 10, 15 or 20 years, the ups and downs of the market tend to smooth out. The longer you stay invested, the lesser the chances of losing money in equities," said Rana. 

Value Research provides insight into how long-term Systematic Investment Plan (SIP) returns have historically fared for aggressive hybrid funds over different time periods, based on category averages. Here's a breakdown of the potential returns: 

Data based on rolling SIP returns for category average of aggressive hybrid funds

 

 

Breakdown of Returns Over Different Periods:

Negative Returns:

 

• 3 years: 7% of investments experienced negative returns.
• 5 years: 1% of investments experienced negative returns.
• 7 years: 0% of investments experienced negative returns.
• 10 years: 0% of investments experienced negative returns.

This shows that the longer you remain invested, the less likely your investments will end up with negative returns. In the short term (3 years), there’s a 7% chance of losing money, but that risk almost completely disappears over a 10-year horizon.

 

Returns Between 0% to 5%:

• 3 years: 14% of investments earned returns in this range.
• 5 years: 4% of investments earned returns in this range.
• 7 years: 2% of investments earned returns in this range.
• 10 years: 0% of investments earned returns in this range.

This indicates that over a longer period (5 years or more), the likelihood of returns in this modest range is almost negligible, and you’re more likely to see better performance.

 

Returns Between 5% to 10%:

• 3 years: 18% of investments earned returns in this range.
• 5 years: 22% of investments earned returns in this range.
• 7 years: 24% of investments earned returns in this range.
• 10 years: 10% of investments earned returns in this range.

Over a medium-term period (3-7 years), a significant portion of investments fall in this range. However, as you continue to hold your investments for longer, your returns will likely exceed this modest range.

 

Returns of 10% and Above:

• 3 years: 62% of investments earned returns above 10%.
• 5 years: 72% of investments earned returns above 10%.
• 7 years: 74% of investments earned returns above 10%.
• 10 years: 90% of investments earned returns above 10%.

 

After 10 years, 90% of investments in aggressive hybrid funds have historically generated returns above 10%. This illustrates the power of compounding and how time in the market helps your money grow, even though the stock market can be volatile in the short term. 

Rana has the following advice for investors: 

 

• If you are emotionally attached to the inherited money, keep part of it in safe options like POMIS or fixed deposits for peace of mind. Invest the rest in diversified mutual funds. 
• Consider aggressive hybrid funds for a mix of equity and debt. For a more risk-on investor, flexi-cap funds can offer higher growth potential. Don't invest all your money in one go. 
• Start a systematic investment plan (SIP) or a systematic transfer plan (STP) to spread your investments and reduce the impact of market volatility. 
• Review your portfolio every year to ensure it aligns with your plans.