NPS - Help to Retire

 



Investing in gold and real estate won't help you build a substantial corpus for retirement.

 

We are a country of savers, with the average Indian putting away nearly a quarter of what he earns. But are we also saving it right? Household savings in India are skewed towards physical assets like real estate and gold. Such is the lure of owning property and the yellow metal that these constitute nearly 64% of all household investments.

Physical assets offer poor returns and low liquidity. Gold has been in a downtrend for two to three years now. Housing prices, though volatile, are also moving at a sluggish pace. According to the RBI, the year-on-year growth in residential property prices shot up to nearly 28% in JanuaryMarch 2013, but has now settled at 4%. Likewise, the CPI housing rental index has moderated from nearly 15% in April-June 2011 to around 5% now.

What does this mean for investors?

Leaning too much on physical assets can rob them of a comfortable retirement because their savings may not be able to match inflation. Also, the challenge in current financial investment ave nues for retiral savings is that the investment objectives are very different. Most retirement options (PF, PPF, etc) are predominantly invested in low-yield debt instruments. While inflation has averaged 10% over the past five years, the real return on the formal pension assets has hardly been positive.

Contrast this with the global pension experience, where a significant chunk of pension assets is invested in equities. According to a study by the OECD, the pension assets in 24 countries had a real return of over 2% between 2008 and 2013. Unfortunately, India was not among them. The weighted average allocation to equities of these pension funds was 40.3%.

The impact is evident in the net replacement ratio (NRR) in these countries. The NRR is the individual net pension entitlement divided by net pre-retirement earnings. If your last drawn salary was `1 lakh and your pension is `80,000, the NRR would be 80%.A 200 basis point difference in the rate of return over a 30-year period of saving would lead to a difference of 8-12% in the NRR.

It is good that Indians now have access to a pension system that has all the right features. The NPS allows greater allocation to equities, discourages premature withdrawals and offers greater transparency and flexibility. It also has an evolving investment governance framework and oversight mechanism. The NPS can fix a lot of problems for tomorrow's retirees. But they need to act today, not 20 years later, when it may be too late.

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