Life is an opportunity and more so if you are an entrepreneur. The goal is to create assets. However, uncertainty creeps in the picture in the complex world of today wherein reality need to meet expectations to create wealth. However many times things take time and in this situation having a passive income helps to tide over the temporary situation in a calm manner.
Passive Income generation is the foundation of financial liberty. It implies generating income without being dependent on the business activity being carried out. This is to be a part of the plan when the business venture is stable, however, in the last couple of years on account of multiple reforms being driven by the government, many businesses across industries have had to modify if not exit the existing business model. This has led to an increased focus on generating passive income.
Let’s explore the different strategies relevant from a passive income creation point of view. Our framework for entrepreneurs is a 4 circle framework for growth. Recently one of our clients who had realigned his business needed a solution as he enjoyed working on his business, however, he would like the option of not being wanting to work if he didn’t feel like working one fine day.
If we look at the basics it starts with creating income. This income on a passive mode for entrepreneurs in a semiretired life needs to be sufficient to last for twenty to thirty years’ post-retirement in parcels of three, five and ten years respectively.
A simple formula is
Income > Expenses. The key to success as experienced by many of our clients is reinvesting the excess savings as per their comfort in different asset classes including debt, equity and alternative assets depending on the need to preserve/vis-à-vis generating sufficient portfolio growth to beat inflation.
In this phase of life, one tends to spend more on travel as well as medicine. If the travel bit has been taken care of one can invest in preventive health to improve the quality of life. This can be by way of having customized meals designed by experts to help maintain/enhance the state of wellbeing.
Some of the relevant strategies which have been found to have a long term impact on one’s financial health are:
Start with fixed Income
It is critical to have the first circle right as that determines the journey. This needs to cover basic fixed expenses as well as basic comfort if not luxury. Comfort in our understanding implies being able to travel as per one’s means to places of choice. These can be international as well as Indian destinations.
For International destinations, one needs to factor in the additional issue of depreciation of our home currency in respect with the country of visit’s base currency. This needs to be at 30 per cent of the portfolio covering fixed deposits, RBI bonds and debt funds.
The question which arises is should one look at debt funds?
The answer is yes, sticking to the liquid and the short term category is preferred from the safety of capital point of view.
Look at beating inflation
There are options to beat inflation over a period of time. This is based upon one’s experience as an investor in the product category. Our observation has been that many investors prefer to park their hard-earned savings in dividend-yielding mutual funds as there is less involvement and returns are similar to direct equity investments with reduced risks on account of more diversification.
One of our clients had a 100 stock portfolio which we have pruned to 20 stocks and the balance has been parked in regular dividend yielding funds to generate income as a dividend on stocks is not sufficient to generate income.
Create long term capital
Some parts of the funds need to be creating growth over the longer term. This can also be viewed as assets which can be passed on to the next generation. One of our clients holds a good quantum of Tata steel which he has added to after he received some by way of inheritance within the family. This ensures a safety net to the risk of living too long.
Consider alternate assets
Alternate assets are plan B if equity-related opportunities do not drive sufficient growth in a conflicted world. Our view is that the US-China. Trade resolution will take place slowly and hence these need to be a part of the winning solution.
As long as the cat catches the mice it doesn’t matter whether it is equity or alternate assets. As long as the world is in flux, the 4 circle approach is relevant for anyone planning for the rest of their business/working lives.
Enjoy the Journey!