This is second stage where wealth generated at first needs to be preserved so that it can be enjoyed by you and passed on to next generation. In this stage, protecting wealth takes front-seat instead of exposing you to riskier growth strategies. At this stage, you need to settle down with lower return which may just surpass inflation by few notches. Important thing is to identify when you must shift gear from 'Wealth Creation' to 'Wealth Preservation'. There is no set benchmark that can decide for you and say... 'hey, now you need to opt for wealth protection'.
We, at Samarth Capital, use score-based model to determine asset allocation. It captures critical personal parameters such as age, income level, number of dependants, current leverage and so on. This model will not pop-up an immediate need to shift from stage 1 to stage 2 but it will indicate a gradual shift. So for eg, if your score depicts asset allocation ratio of 80:20 (80 for equity and 20 for debt) during your early life and after 5 years it shows 70:30 means some part of your income needs to be shifted from growth to preserving mode due to change in your personal life parameters.
How do you proceed?
Traditional way of shifting is to move your capital to secured instruments like:
1. Bank or Corporate Fixed Deposits
2. Debentures / Bonds of good companies
3. Pension Plans from Insurance Companies
4. Money Back Plans from Insurance Companies
And so on....
There is another innovative way to do this. This shift can be done within the asset class. It depends on how deeply you understand asset and how comfortable you are, with it.
Let's take an example:
Suppose you have sizeable equity portfolio and now score model has suggested you to preserve your wealth. You can take following action:
1. Rejig your portfolio from mid and small cap to large caps. Large companies bear lesser brunt of a cyclical downturn and are first to bounce back in case of an uptick in the market.
2. Restructure your portfolio from cyclicals to defensive stocks. Companies in defensive sector like FMCG, Pharma, Consumer Durables, etc have inelastic demand for their product. Since demand is inelastic, the fall in the stock prices are curtailed in a general downfall in the market.
In case you have a larger bond portfolio, you can
1. Reduce the duration of the portfolio. Since the duration of the portfolio is directly proportional to interest rates, reducing the duration will reduce the effects of interest rate movements on the portfolio value significantly.
2. Load higher quality bonds - for eg: shift from A rated paper to AA or AAA rated papers.
This kind of shift within asset class can make your portfolio secure to some extent.
The important thing to bear in mind is the tax impact on income from these instruments. The target is to get maximum return on post-tax basis. In the process, I am sure you will end-up with availing utmost exemptions available under Income Tax law.