The Importance of Growth Assets in Your Portfolio

Meet Priya Kumar, a 40-year-old IT professional from Bengaluru, earning ?1,50,000 per month.

Although she’s been diligent about saving, recent worries about her future, especially after seeing her parents struggle with medical bills in retirement, have made her reconsider her approach.

With just ?15,00,000 saved and only 20 years until retirement, Priya understands she needs a solid plan to ensure a financially secure future.

Why Growth Assets Matter in Your Portfolio

For the October to December 2024 period, interest rates for popular savings options in India are as follows:

• Public Provident Fund (PPF): 7.1% per annum
• Senior Citizen Savings Scheme (SCSS): 8.2% per annum

While these rates may seem appealing, they don’t reveal the full picture, as they don’t account for inflation. To understand the actual increase in purchasing power, we need to calculate the real rate of return, which factors in inflation.

How to Calculate Real Rate of Return

The real rate of return formula is:

Real?Rate?of?Return=1+Nominal?Rate1+Inflation?Rate?1\text{Real Rate of Return} = \frac{1 + \text{Nominal Rate}}{1 + \text{Inflation Rate}} - 1Real?Rate?of?Return=1+Inflation?Rate1+Nominal?Rate?1

• Nominal Rate: The stated interest rate on an investment (e.g., the FD interest rate).
• Inflation Rate: The rate at which prices are rising.

Let’s calculate the real return for a fixed deposit (FD) offering 7.5% interest with a 7% inflation rate.

1. Convert percentages to decimal form:
2. Apply the formula:

This shows that, while the FD nominal return is 7.5%, the actual return after adjusting for inflation is only 0.47%. In real terms, if Priya invested ?15,00,000 today, its purchasing power in 20 years would grow to only around ?16,45,590.

The Advantage of Growth Assets Like Equity

Now, let’s consider the same scenario using an equity-based growth asset with a 12% nominal return and the same 7% inflation rate.

1. Convert percentages:
2. Apply the formula:

With a real return of about 4.67%, the purchasing power of Priya’s ?15,00,000 would grow to roughly ?37,37,109 over 20 years. This illustrates the substantial growth that an equity-focused investment could offer after accounting for inflation.

Final Thoughts

This comparison highlights the importance of including growth assets like equity in a retirement portfolio. While traditional savings options provide stability, they may fall short in combating long-term inflation.

Adding growth assets such as equities can build a more robust portfolio, offering both growth potential and the ability to maintain purchasing power over time—critical factors in achieving a financially comfortable retirement.