SRP is a small sample portfolio that is a replica of the portfolio that you would have created on retirement. This not only enables you to observe the performance and test the assumptions that you had made, but also gives you insights on how you react to changes in the markets and economic environment.

Even if your assumptions hold true on an average, there can be significant short-term variations. For example, inflation could go through the roof for a year or two, though over the long run it remains fairly stable. Similarly stock markets may deliver the returns you have assumed over the long term but could drop by half in any given period before you achieve your desired rates.

In some cases, even a small variation can have a huge impact on your portfolio. For example, you have assumed a return of 7% per annum for your debt portfolio over the next 20 years. In the real world even if this is true, there could be periods where the interest rates drop to 5% and upset all you calculations as far as regular cash flow is concerned.

The idea of a SRP is to build awareness on the best ways of handling short-term market fluctuations. The biggest mistakes in investing are seldom due to your assumptions not coming true but due to the manner you respond to the changes in the market. There is vast literature on behavioural finance that documents the impact that our behaviours have on investment outcomes. By creating a SRP, we are recognizing these challenges so that we can build an appropriate response when such an event happens.

In this blog, I am outlining the process of creating a sample retirement plan.

Step 1: Estimate monthly expenses

Estimating expenses itself can be a challenge. The key to accurately estimating your expenses is to be able to have clarity in the way you intend to live your life post retirement. Where would you live? What would you be doing to spend all the free time that you now have? Would you be travelling a lot more or a lot less? Would you like to donate to charity on a regular basis?

You can start by making certain assumptions (example: I would need 75% of my current expenses) or you can go ahead and make a detailed budget.

Step 2: Determine monthly income sources

Think of your income sources that will help you fund your expenses in retirement. Are you going to continue to do some commercial activity (part time employment or business) in retirement? Do you have a pension? Do you have a rental income? You will need a large portion to come from your investments.

Step 3: Decide on the asset allocation

Asset allocation in the only time that I excuse myself for using investment jargon. It is a great concept that forces us to think and diversify across debt, equity, precious metals and real estate (read various asset classes). In this case, we are really thinking in terms of the amount we should allocate between debt and equity. Higher allocations in debt would depress returns but add stability to the portfolio. Higher allocations to equity can potentially add significantly to our investment returns but would also add a lot more volatility to our portfolio. The answer is getting to the right mix that delivers the desired level of returns and also does not make us lose sleep if there is significant volatility in the market.

Step 4: Evaluate the investment options

You can generate steady returns by investing in several kinds of debt. You can invest in Bank Deposits, Bonds (taxable and tax-free), Debt funds, Debt PMS or Debt AIF, insurance products, pension products (annuities). The equity portion could be invested in equity mutual funds, Equity PMS or Equity AIFs or direct equity. Each of these choices need to be well understood from the perspective of the potential returns, the risk to your capital, liquidity and taxation.

Step 5: Create your Sample Retirement Plan

The Sample Retirement Plan is nothing but a model portfolio (a miniature replica) of what you would have created had you retired today. If you are planning to invest Rs 5 Cr and generate Rs 2 lakhs of income every month, the SRP should be about 10% of these amounts. The SRP should be Rs 50 lakhs and the monthly income that you would withdraw would be Rs 20,000 per month. We realize that you do not need this money so you could very well re-invest this amount. The important part is that you should be able to make an assessment at the end of each year whether the plan worked for you or not.

Step 6: Review/Re-align SRP, if required

This is the real stuff. You will soon realize that the assumptions made is the model portfolio do not seem to be holding out. The economic environment is dynamic and the markets are rarely in the state that you had budgeted for. There will be changes in inflation, interest rates, stock prices and taxes. The only decisions that you can take are to hold on (make no changes), sell or buy. Your emotional stability and adaptability are the key factors that would determine your investment success.