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How to invest a lump sum amount for your goals?

Posted on 27 Nov 2022
Author: Sayan Sircar

Tags: Portfolio Construction ; Mutual Funds

8 mins read
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This article uses the Arthgyaan Have vs Needs Framework to invest a large lump sum amount in your portfolio per your financial goals.

How to invest a lump sum amount for your goals?

📚 Topics covered:

What is a lump sum amount for investment
Defining the Arthgyaan Have vs Needs Framework
Arthgyaan Have vs Needs Framework makes allocation simple
Allocating a lump sum amount using Have vs Need framework

What is a lump sum amount for investment

A lump sum is a large chunk of money, relative to the size of your portfolio, that you need to invest.

Typical examples of lump sum amounts come from bonuses, real estate sales or other such transactions. In addition, suppose you are doing a portfolio rebalancing exercise or exiting investments that no longer meet your objectives. In those cases as well, you will also end up with a lump sum cash amount.

We will use the bucket theory of portfolio creation, also called the Arthgyaan Have-vs-need (HvN) framework for investing a lump sum amount.

Defining the Arthgyaan Have vs Needs Framework

We extend the concept of the bucket theory of portfolio construction to create a framework to be used in the accumulation, i.e. the pre-retirement stage when the investor has active income and is investing for future goals.

The Arthgyaan Have vs Needs framework (HvN) is a simple tool to tell you how much money you need to invest:

for all of your financial goals
which asset class should you invest in next

We will now break this down in simple terms. There are two important questions that investors who are investing for their goals ask:

how much more money do I need for my goals?
where the next rupee of investment should go into

Arthgyaan Have vs Needs Framework

The Arthgyaan HvN framework needs you to make a very 4x4 simple table with three asset class buckets and for each bucket asks you to calculate three numbers: the amount you already have (the HAVE column), the amount you need to reach your goals (the NEED column) and the difference between the two (the GAP column).

The three buckets are:

equity bucket for long-term goals while beating inflation
debt bucket to either generate income or provide stability vs the equity bucket
cash bucket for spending on short-term goals

The columns are:

HAVE is the total market value (at today’s prices) for the assets you own. For example, if you have 5 lakhs invested in an equity mutual fund, and as the latest NAV, the value of these funds is 8 lakhs then the value of the HAVE column is 8
NEED is the present value of all of the goals. We will show how to calculate this
GAP = NEED - HAVE and is the amount you need to grow your portfolio by to consider your goals to be funded

We also have a TOTALs row to give a high-level view of the portfolio.

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Arthgyaan Have vs Needs Framework makes allocation simple

We create a set of rules for allocating a lump sum using the HvN framework like this:

Step 1: Are any high-interest loans like credit cards, personal loans or other loans left? Pay off these loans first
Step 2: Consider pre-payment of your home loan if you have one. This topic has been discussed in detail here: Should you use your stock market profits to prepay a home loan?
Step 3: Find the Gap figures for the whole portfolio for Equity, Debt and Cash buckets.
Step 4: Fill the cash bucket except what you can save from monthly investments in the cash bucket over the next five years
Step 5: Fill the equity bucket over the next 3-6 months using anything left over. You can fill it as a lump sum as well. Filling the equity bucket before the debt bucket allows more time for equity to grow for long-term goals
Step 6: Fill the debt bucket at one go using any left-over amount

We will see Steps 3-6 in action using a worked-out example.

To understand how to create a such a plan for yourself:

Allocating a lump sum amount using Have vs Need framework

We will use a simple numerical example to calculate this. Let us say that the investor has two goals:

Car goal: 10 lakhs needed in 3 years to buy a car. The present value of this goal is 8 lakhs (assume), and the asset allocation is 100% cash
House goal: 30 lakhs needed in 8 years to buy a house. The present value of this goal is 13 lakhs (assume), and the asset allocation is 20% equity and 80% debt

Arthgyaan Have vs Needs framework worked out

As the table shows, the investor has ₹2 lakhs, ₹5 lakhs and ₹2 lakhs in equity, debt and cash, respectively. The table also shows the total amount needed to reach the funded status of both goals combined. By funded status, we mean that for each goal, there is no need for further investment. This point is essential since the invested amount will grow over the time left to reach the goal value when the goal is due.

We assume that the investor is investing ₹20,000/month, which they will increase by 10% per year due to salary hikes. So the following year, they will be investing ₹22,000/month. Over the next 5 years, the amount invested becomes:

At the end of year 1: 20.0 * 12 = ₹0.00 + ₹2.40 lakhs = ₹2.40 lakhs invested so far
At the end of year 2: 22.0 * 12 = ₹2.40 + ₹2.64 lakhs = ₹5.04 lakhs invested so far
At the end of year 3: 24.2 * 12 = ₹5.04 + ₹2.90 lakhs = ₹7.94 lakhs invested so far
At the end of year 4: 26.6 * 12 = ₹7.94 + ₹3.19 lakhs = ₹11.14 lakhs invested so far
At the end of year 5: 29.3 * 12 = ₹11.14 + ₹3.51 lakhs = ₹14.65 lakhs invested so far

This ₹14.65 lakhs does not include any returns and is simply the total amount to be invested over the next five years.

We assume that the lump sum amount available is ₹5 lakhs from a bonus at work.

Paying off loans

There is only one loan outstanding today, a ₹1 lakh education loan, that is paid off. So ₹4 lakhs is now left.

Fill the cash bucket

We see that in three years, there would be ₹7.94 lakhs invested from monthly salary. This money will be enough to fund the car goal. Hence we will not allocate any of the ₹4 lakhs to the cash bucket since the need figure (₹6 lakhs) for this bucket is lower than the amount that can be invested from salary.

Fill the equity bucket

There is a ₹0.6 lakhs or ₹60,000 gap in the equity bucket. Login to your mutual fund portal and invest this amount as a one-time investment or an equal amount over the next three months into equity funds. If you have investments in direct stocks, you can buy more of those.

Fill the debt bucket

Any remaining amount from the amount should now go into debt funds.

Summarizing the example

So in our example, the final allocation for ₹5 lakhs lump sum will be:

Step 1: Are any high-interest loans like credit cards, personal loans or other loans left? Yes, paid off ₹1 lakh. ₹4 lakhs left.
Step 2: Consider pre-payment of your home loan if you have one. None
Step 3: Using the Have vs Needs Framework, find the Gap figures for the whole portfolio for Equity, Debt and Cash buckets. Done
Step 4: Fill the cash bucket except what you can save from monthly investments in the cash bucket over the next five years. None was allocated since the cash bucket gap is less than the investments over five years.
Step 5: Fill the equity bucket over the next 3-6 months using anything left over. ₹60,000 allocated and will be invested over three months. ₹3.4 lakhs left
Step 6: Fill the debt bucket in one go using any left-over amount. ₹3.4 lakhs invested in one shot.

If you are using the Arthgyaan goal-based investing calculator, then it is effortless to calculate the numbers and use this framework for all your goals together as below:

Asset-wise view:

Arthgyaan Have vs Needs framework plan bucket-wise

Goal-wise view:

Arthgyaan Have vs Needs framework plan goal-wise

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Next steps:

1. Email me with any questions.

2. Use our goal-based investing template to prepare a financial plan for yourself.

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