How To Save For Your Child In These 4 Ways

How much money will be required by the time my child turns 21? What savings options would work best for me to generate so much money?” Do you lose you sleep over these questions? Read on for answers.

How To Save For Your Child In These 4 Ways

Ensuring that children are financially secure in future is one of the top priorities for parents. It is quite natural that, at some point, questions related to this responsibility arise, and there is confusion about the right investment choices to make. I’m a parent myself and I have gone through this situation. Trust me, saving money efficiently hinges upon two things, both of which are in your control – time and discipline. Our aim in this article is to point you in the right direction for saving and creating wealth for your family.

This leads us to the million-dollar question – where should we invest?

Before we get into that, let us discuss what most parents do in pursuit of the goal of ‘saving for the child’.

  1. Insurance-linked ‘child’ plan: Run away from agents who try to peddle such plans for your child. Insurance is an expense and it cannot double up as an investment, whichever way you look at it. Typically, these plans come with an annuity component, and a series of cash inflows is expected after your child hits a certain age. The annuity component makes young, financially gullible parents believe that the future cash flow would come handy when the child starts higher education. However, if you break down the numbers you will realise that the rate of return on these instruments is mediocre, sub 8% in most cases. There are two serious problems with such ‘investments’ – you not only commit large amounts of money every year (for many years) towards such low-yielding avenues, but you also lose out on many attractive investment opportunities which can generate great returns.
  2. Savings Bank: Many parents open a bank account in the child’s name and start hoarding cash in it. Cash in savings accounts creates an illusion of safety. In reality, it is probably the worst form of investment. Inflation is real and inflation will eventually vaporise your money’s purchasing power as a savings bank account yields about 4% interest while the average inflation rate is about 6.5%. This means you are losing about 2.5% by parking your money in a savings bank.

So, what are the other investment options at your disposal? Here are a few:

  1. Equity oriented Mutual Funds (50%): Many people find it scary to invest in a Mutual Fund. The usual feeling is that as mutual funds invest in stocks, and stocks are volatile, it is easy to lose money. Investing in equities requires a change of mindset. Yes, stocks are volatile. The only antidote to volatility is time. If you give your mutual fund investment adequate time, you can expect a great rate of return. Historically, average returns of mutual funds over a 15-year period (in India) have been more than 14%, which is brilliant! There are funds which have delivered over 20% as well. I strongly suggest you save up to 50% of your investable cash flow in equity-oriented mutual funds, via the SIP route. Most importantly, you need to give this investment time – at least 10 years, in my opinion.
  2. Fixed Income (30%): I’m not talking about the regular bank fixed deposits here. You should explore options beyond those and venture into AAA-rated corporate bonds. Some of these bonds give you over 10% interest. Besides, an AAA-rated bond implies there is a great amount of capital safety.
  3. Gold (10%): Don’t expect gold to deliver spectacular returns over the years. At best, you can expect an average of about 6%-8%. But you need this investment as a hedge against inflation. Gold, to a great extent, maintains the purchasing power of money. But do not over-expose in gold. A ceiling of 10% would be apt.
  4. Index ETF (10%): Young parents should consider an exposure of at least 10% in an Index Exchange Traded Fund (ETF). The rationale is very simple: an index like Nifty 50 represents the Indian economy. If you believe the economy will do good going forward, then naturally the index will also do well. If the index performs well, so will its ETF.

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