Risk Management is not only about Insurance

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From the title “Risk management in Financial Planning” many of you assume that this is another article on insurance planning. But assumption is not always correct. Insurance is one of the risk management tools where we transfer some of our risks to the insurance company.(Read : Review insurance portfolio) But there are lot of other risks, which can’t be transferred but have to be managed internally, through different other risk management tools like Risk avoidance, Risk optimisation, Risk Transfer and Risk retention.

Through this article I would like to highlight various areas of risk in personal financial situation where you need to work on and are an integral part of financial planning.

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1.       Risk of Under investing or Over Investing

I have found many people saying that if they are saving Rs 1 lakh for tax saving that would be enough for comfortable future, and on the other hand I have found many people who calls themselves a “Hrithik Roshan” of ‘Zindagi naa milegi dobara’ and says that they want early retirement and thus compromising current lifestyle. In actual both the styles are very risky. One should invest an appropriate amount keeping in mind the long and short term goals they want to achieve. They should understand that Inflation and Taxes are 2 holes in the pocket which may deplete all their savings. Thus, whatever you save may not be sufficient enough for your future. On the other side, saving or investing alone is not sufficient; one should lead a happy and healthy lifestyle. Go to morning walks, gym, eat balanced diet, Weekend breaks etc. do whatever keeps you happy. It is very much required to keep your financials happy. You just need to maintain a balance between these two.

Now here financial planning comes into the scene, where with cash flow and goals analysis, one gets a holistic view of finances and sets minimum and maximum limit on the investment amounts and also can set limit to discretionary spending. Stay happy – Stay invested.

 2.       Information Risk

 These days we are bombarded with so much information on almost all areas of finance which makes the decision making actually very difficult. And the worst part is when people start taking information as knowledge. After reading case studies, question answers on personal finance, or listening to some professionals answering queries on television many people acts upon on the advice in the same way as was advised to the person asked that query. But this is not right as every person’s financial situation is different. Some more examples of general advice on personal finance which investor takes personally are:

a)      Take Life insurance equal to 12-15 times of Annual income.

b)      ULIPs are bad, so one should surrender it immediately.

c)       ELSS is the best investment for Tax saving u/s 80C

……..and many more

 Now as a Risk management tool ,people should take these advices as helpful information, and reference points for their financial decisions, which should be taken after taking note of their personal financial situation in depth.

  3.       Behaviour Risk

 Though the above 2 risks also indirectly come into this category but technically these risks are related to some behaviour anomalies which has to be dealt with properly, if someone is seriously interested in improving one’s financial situation (Read: Work on your Investment Behaviour). One of the major behaviour risk/anomaly is Instant gratification. Basically instant gratification is all about concentrating on the immediate benefit, without realizing its impact on our life later. In investments also, this behavior is very common among people. We want everything instantly and this can be proved with people’s behaviour

a)      Avoiding insurances when you are fine and searching for the same when about to hospitalised.

b)      Ignoring tax saving in April…and running for investments in January when asked to submit investment proofs.

c)       Acting on Stock TIPs even after knowing that stocks are for long terms.

d)      Investing for long term but watching the performance on daily basis.

…..and many more

 One has to be patient in financial matters. There must be a logical and genuine reason to your decision. While following financial planning this risk automatically gets curtailed as the focus is always on long term. So here we can say that Financial Planning itself is a risk management tool.

 4.       Financial Planning Risk

Even if I said that all kind of risks can be managed through proper financial planning, but it is also correct that in Indian scenario Financial Planning itself has become very risky. Almost every financial services company has added financial planning as one of the services in their Bouquet. Many Insurance companies  like HDFC Life , LIC etc. has come up with services which they termed as Financial Planning… though the end result would be selling some insurance plan only. Many mutual funds houses has started such services, every brokerage house has these services which they offer through some software and ultimately comes up with some investment advice. All these “Me too Financial Planners” have actually made the scenario too complex for the clients. We can very well say that “Gone are the days when they are missold with some insurance policies, now people are getting missold with financial Planning”.

This is the only risk where none of the risk management tools work except the client’s selection ability.  If someone wants to work with a financial planner, then it becomes inevitable to work with a good one. Choosing a good one is your responsibility and rest everything will be taken care of.

There are many other risk management tools being used in Financial planning , which I will discuss with you in some other article. Love to hear your comments on this.

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He’s MBA ( Finance) gold medalist, a CERTIFIED FINANCIAL PLANNER and SEBI Registered Investment adviser. An ex banker , having a decade long experience in financial services industry he manages clients across the globe. He is a regular contributor to various leading Media and publication houses. He keeps on writing for Moneycontrol, Dainik bhaskar, Business standard etc. He also delivers training on Various personal finance topics to various corporate houses. You may get in touch with him at [email protected]

6 COMMENTS

  1. HI!! Nice article.
    I have one doubt…why you said that “taking life insurance 12-15 times of annula income” is not the advise to be acted on? This is the general criteria i guess.

    • Well Subhash, this is because in many cases this thumb rule does not work. Generally in need based analysis we take note of your Family expenditure, Life expectancy , your loans, Children requirement and other goals, your current investment and other assets and then advice on the amount of cover one should take. Now without understanding these financials in detail if someone goes with the thumrule then it may happen that your SUm assured prove to be inadequate.
      But on the other side there are many cases where this thumb rule gets applied.
      So the main idea in saying this is that “There’s risk in generalising advise”

  2. Hi Manikaran

    Thanks for the focussed post. As far as risks in personal finance are considered, I think people need to be aware of the fact that whatever risks you can transfer – pay a small sum and do it. For those you cant e.g. financial impact due to a job loss, build your own contingency fund. I think the risk management approach (avoidance, retention, mitigation, transfer) is a very good way of explaining to a layman how risks have to be managed. And yes, not having a financial plan is big risk that one should address by consulting certified professionals.

  3. First time I’ve come across your article. I’m in agreement with Abhinav’s comment. I use the financial planning process with my client’s and refer to the various risk management techniques all the time. I also refer to risk inherent in the Planning process. Good article.

    • Thanks thomas. Actually we all do financial planning just to manage various kind of risks only. Risks of living too long, risk of dying early, risks of increase in the education cost, risk of mismanaging one’s cash flows, risks of spending more, risks of investing less ……and so on.

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