Falling Interest Rates: A Common Dilemma For Retirees

Falling interest rates can be a serious dilemma and challenge for retirees preferring risk-free fixed income instruments. Our member and financial expert, Dr Pallavi Mody, weighs in.

Mr Mathur, a very meticulous person, retired in 2008. He is a classic case, like millions who carefully plan their retirement and the target sum they would need post-retirement. Years back, he had planned his target to reach to the magic figure of Rs.50 lakh so that at 12 per cent interest, he would get a neat sum of Rs.50,000 per month to live a comfortable living in his golden years. 

Everything was going on according to his master plan, but in the last few years, each time there was a fall in interest rate, Mr Mathur would get a bit worried. He was confused and in a serious dilemma. Economists said that falling rates of interest were good for the economy; he too agreed but could not sleep at night. Throughout his life, Mr Mathur had invested, like all his friends, in a housing property and in risk-free investments of fixed income instruments like FDs, PPF, LIC, NSC, and RBI bonds.  Reserve Bank of India (RBI) says these instruments account for 85-90 per cent of gross financial assets of the household sector in India, so our Mr Mathur was definitely not off the mark. He, too, like millions, preferred risk-free fixed income instruments of investments.

The falling returns on the instruments of fixed income investments have left  investors like Mr Mathur in a shock. These investors are caught up as interest in most of these instruments has registered a fall of 4-6 per cent.  Interest rates on bank deposits currently stand between 5 to 6 per cent. The situation is serious for people like Mr Mathur. His Rs. 50 lakh would now fetch him a monthly income of only Rs. 25,000 as interest rates on most debt instruments currently hover around 6 per cent. Mr Mathur faces a serious problem of adequacy of funds in his retirement. 

The problem has become more acute with longevity, and more years a person lives post-retirement. Even if the government subsidizes the interest incomes of senior citizens by special schemes where a higher interest rate is paid, it is not a fiscally prudent long-term solution. Although low-interest rates have become a fact of life, RBI’s data on gross financial assets of the household sector in India shows that there continues to be overwhelming dependence on instruments of fixed income investment.

1.     What are the options for Mr Mathur, who is over 70 years of age, to live a dignified life? 

a.     Declutter your life: As one ages, the requirements in life considerably reduce. My father moved to a small one-bedroom apartment in his 70s. It released a chunk of money and made his life easy regarding physical and financial maintenance. To add to this, my mother sat with all her gold and silver, distributed what the family liked, and sold off the rest. In modern parlance, we call it monetizing the value lying in dead assets! 

b.     Borrow from a relative: My father joked that if he lived till 100, he would borrow from us against his flat. It was a revolutionary idea but was practical. It is alright to borrow from your children against the property as ultimately they are going to inherit it. 

c.     Reverse Mortgage: If you feel awkward borrowing from your children, you can reverse mortgage your property to the bank. The bank would keep your property in their books as an asset and pay interest till you live. After your death, the bank offers two options to the heir. (1) Pay all the bank dues, including the interest paid and get the property (2) Sell the property, recover all the dues and pay the remaining money to the heir.  

2.     What are the learnings from this story for us? 

Investing in Equity: World over equity investments have provided some workable solutions to this problem in the past three decades. Even though the equity markets have been around in the world for more than 250-300 years, until relatively recently, the interest in equity shares was limited. The class of investors mainly constituted of a few wealthy individuals and institutions. The operations of the securities markets were geographically restricted to major commercial and financial centres. 

However, falling interest rates on fixed income instruments everywhere in the world in the eighties have compelled people to consider the option of equity investment. If a higher return for pension and retirement is the question, equity investment has emerged as the best answer worldwide. Almost all investors, everywhere, including India, have come to understand the fact that, in the long run, only shares hold out the promise of sufficiently large returns to pay for pensions and retirement. 

Besides falling interest rates that pushed investors to equity investment,  technological development helped equity markets to spread further and reach larger masses of individual investors everywhere in the world. The situation has dramatically changed with technological development, making it possible from the infrastructure viewpoint.

The equity culture is spreading fast because it has percolated to cover all classes of investors and spread wide to bring in more investors. A Survey by The Economist shows that almost 50 per cent of American households and 20-25 per cent of European households have become investors in equity shares. Equity culture has also taken firmer roots in India through Mutual Funds. 

Do you or an older loved one share Mr Mathur's dilemma? What have been your options for comfortable living in your retired years? Please share in the comment section below.