How can target date funds be used for single payment goals?

Target date funds can be used for single payment goals by creating a Single Date Fund (SDF) for a specific goal, as Indian AMCs do not yet offer Target Date Funds. The SDF is a synthetic fund that is created to invest and reach a single payment goal. By using a TDF’s asset allocation principles, investors can invest in equity and debt in a specific ratio based on the goal year, with the aim of meeting the financial goal by the desired year.

What are the steps to create an SDF for a single payment goal?

The steps to create an SDF for a single payment goal are: Step 1: Choose the year of spending for the goal. Step 2: Calculate asset allocation: Step 3: Revisiting the portfolio a year later for rebalancing

What is Step 1 in creating an SDF for a single payment goal?

Step 1 in creating an SDF for a single payment goal is to choose the year of spending for the goal. For goals far away, you can have a bit of a leeway. But for goals due within 15 years, like the downpayment of your first house, it is vital to have the date fixed first.

What is Step 2 in creating an SDF for a single payment goal?

Step 2 in creating an SDF for a single payment goal is to calculate the asset allocation using a goal-based investing calculator. The calculator determines the asset allocation of your goal based on the year of spending. The asset allocation comprises of equity, debt, and cash. Based on the investor’s risk profile, a fund with a spending date after the actual one can be chosen if the investor has an aggressive risk profile, and vice versa for conservative investors.

« How to construct buckets for your retirement portfolio? How much returns should you estimate for your goals? »

How to invest for a single goal using Target Date Funds in India?

Q: What is a Single Payment Goal?

A single payment goal is one where money is spent only once, like a foreign vacation, buying a car, a kid’s marriage, or for the down payment of a house.

Q: What is Step 3 in creating an SDF for a single payment goal?

Step 3 in creating an SDF for a single payment goal is to revisit the portfolio a year later to rebalance the asset allocation based on the changing timeline of the goal. For instance, if the original year of purchasing the house was 10 years away and has now become nine years away, the asset allocation changes to a more conservative one. The investor must perform rebalancing by themselves after a year of starting the SDF.

Posted on 12 Mar 2023
Author: Sayan Sircar

Tags: Portfolio Construction

9 mins read
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This article extends the concept of a target date fund for one-time goals like house downpayment for investors in India.

How to invest for a single goal using Target Date Funds in India?

Summary:

The article explains how target date funds (TDFs) can be used for single payment goals, such as a house down payment or child's marriage, all of which require a one-time expenditure.
In India, TDFs are not yet available, so the article suggests creating a Single Date Fund (SDF) to invest and reach the goal.
The first step is to choose the year of spending for the goal, then determine the asset allocation using the Arthgyaan goal-based investing calculator.
Based on the allocation, the portfolio can be created using an equity index fund and debt mutual fund in a specific ratio, or an aggressive hybrid fund and debt mutual fund.
The article also emphasizes the need to revisit the portfolio a year later to rebalance the funds.

📚 Topics covered:

What is a target date fund?
How can you use target date funds for single payment goals?
Steps to create an SDF for a single payment goal

What is a target date fund?

A target date fund (TDF) is a mutual fund created for a long-term goal like retirement. They are popular in the US and are not yet available in India. The premise of a TDF is to allow the investor to invest in a single fund tagged to their desired retirement year. They invest in that fund throughout their earning period and then withdraw from the same fund in retirement. TDFs are typically fund of funds, i.e., mutual funds holding other mutual funds.

This article is a part of our detailed article series on Target Date Funds. Ensure you have read the other parts here:

How to invest in a target date fund for retirement in India?

This article explains how to create a target date fund to simplify retirement planning in India.

What are target date funds and why do we need them in India for retirement?

This article introduces the concept of the target date fund and explains why they are a good option for retirement planning.

How can you use target date funds for single payment goals?

What is a Single Payment Goal?
A single payment goal is one where you spend money only once, like a foreign vacation, buying a car, a kid's marriage, or for the down payment of a house.

We have covered how to calculate the SIP amount of a single payment goal here: How do you get from goal to SIP amount. This article will show how to use target date funds to invest for a single payment goal.

Since Indian AMCs do not yet offer Target Date Funds, we will create our own synthetic fund to invest and reach our goal. For the rest of the article, we will use the term Single Date Fund (SDF) to distinguish it from Target Date Funds (TDFs). TDFs are usually for retirement where you spend money multiple times over a long period.

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Also read
Frequently asked questions on Public Provident fund (PPF): the complete guide

Steps to create an SDF for a single payment goal

Step 1: Choose the year of spending for the goal

The year of spending is the first input for creating your SDF. For goals far away, you can have a bit of a leeway say for a child’s marriage you may not have a fixed date in mind. But for goals due within 15 years, like the downpayment of your first house, it is vital to have the date fixed first.

In this example, we will take the case of a person wanting to buy a house in 2034.

Step 2: Calculate asset allocation

You can use the Arthgyaan goal-based investing calculator or the web-based calculator to determine the asset allocation of your goal.

Goal year	Years left	Equity %	Debt %	Cash %
≥2039	≥15	60%	40%	0%
2038	14	54%	46%	0%
2037	13	48%	52%	0%
2036	12	42%	58%	0%
2035	11	36%	64%	0%
2034	10	30%	70%	0%
2033	9	24%	76%	0%
2032	8	18%	82%	0%
2031	7	12%	88%	0%
2030	6	6%	94%	0%
2029	5	0%	100%	0%
2028	4	0%	100%	0%
2027	3	0%	0%	100%
2026	2	0%	0%	100%
2025	1	0%	0%	100%

The example above shows that the asset allocation is 30% in equity and 70% in debt for buying a house in 2034.

The above table also shows why it is crucial to fix the year in which the goal is due. The asset allocation or split between equity, debt and cash is different based on how far the goal is from today.

We can create the portfolio in two ways:

one equity index fund and one debt mutual fund in a ratio of 30% to 70%
one aggressive hybrid fund (benchmark of 65% equity and 35% debt) and [one debt mutual fund in a ratio of 46.15% in the hybrid fund and the rest in the debt fund. We choose 46.15% in the hybrid fund since 46.15% * 65% = 30%.

🛈 How much to allocate to aggressive hybrid fund?

Hybrid allocation = Target equity proportion / 65%
Here 30% / 65% = 46.15%.
The hybrid fund allows tax-free automated rebalancing.

You can perform rebalancing via switches from the AMC website if these funds are from the same AMC. This feature can vastly simplify the yearly review process.

We can now start a SIP in these funds in the calculated ratio. If there is any lump sum amount that needs to be invested, that amount should also be invested in the same ratio.

📝Note: The asset allocation in the table above assumes “medium” category risk profile of the investor. If your risk profile is more aggressive, then you should choose a fund with a spending date after your actual one. Conservative investors should choose a fund with a spending date that is before their actual year.

Step 3: Revisiting the portfolio a year later

Since we have two funds in the portfolio, we must rebalance by ourselves after a year of starting. A year later, the investor is still spending the money in the same year. Therefore, the asset allocation has changed to a more conservative one. Specifically, the original year of purchasing the house was 10 years away. Now it is 9 years away, the asset allocation needs to be, as per the year left = 9 row in the above table to be 24% in equity and 76% in debt. You need to rebalance your portfolio to reach the new asset allocation, readjust the SIP proportions and move on.

We will repeat the rebalancing exercise at least once a year or preferably after major market movements.

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