Investing During a Period of Rising EMIs
Strategies for Investing During Times of High EMIs
Everyone agrees that the best way to generate wealth is to follow a disciplined way to invest your savings over time.
However, it can be challenging to keep investing when loan instalments rise, resulting in a fall in your savings and disposable income.
To combat inflationary pressures, the Reserve Bank of India (RBI) has increased its benchmark overnight lending rate by 250 basis points, or 2.5 percentage points, since May 2022.
This rise would have increased the equated monthly instalment (EMIs) on home loans worth over Rupees 18 lakh crore as of January.
The EMI payment towards the home loan can account for up to 30-40% of a family's monthly income for a middle-class family.
Consequently, home budgets have seen a lower amount of savings as EMIs eat into the amount left for discretionary spending.
Why do EMIs rise?
EMIs rise because lenders have passed on the interest rate hike to customers, thus, leading to an increase in all existing home loans on floating interest rates.
Do EMIs always rise if interest rates rise?
Three factors go into calculating your EMIs. They are the loan amount, the rate of interest and the tenure.
The loan amount, once disbursed, cannot be changed.
The rate of interest, which these days is mostly floating rate, keeps changing with the rate to which they are pegged – the Reserve Bank of India's repo rate.
The repo rate is the rate at which the RBI lends to banks. So, if the RBI changes the repo rate, your loan rate is bound to change.
You can negotiate the spread the bank keeps between the loan rate and the repo rate.
Banks will try to resist this demand, but you are in a buyer's market and check the rate with other lenders.
More so if you have a good credit score (More on improving your credit score here).
No is the answer to the question of whether loan EMIs always rise when interest rates change.
Some lenders choose not to raise your EMI even if interest rates rise. Instead, they offer to increase the tenure of your loan.
However, you can still ask the lender to revise the EMI instead of the tenure.
What should you do?
Financial planners suggest that the most effective way to manage the increased borrowing costs is by making pre-payments.
But it is important to refrain from hastily withdrawing your investments and making pre-payments. Instead, you should consider various options that align with your financial situation.
More importantly, do not stop investing while you dip into your investments to pre-pay your loan.
Review Your Budget
Reviewing your budget is the first step to investing when loan instalments rise, and savings fall.
Look closely at your income and expenses and see where to cut back.
Identify any unnecessary expenses that you can eliminate or reduce.
Cut off some of the subscriptions to the streaming services or TV channels that you do not watch. Or, negotiate with your internet service provider for a lower rate or switch to a cheaper provider.
By reducing your expenses, you will have more money to put towards investing.
Prioritize Your Loans
If you have multiple loans, prioritize them based on their interest rates.
Pay off the debts with the highest interest rates first, as they cost you the most. Once you have paid off the high-interest debts, you can focus on the debts with lower interest rates.
Close the car loan first. Loans for the purchase of automobiles are always at a higher rate of interest, and unlike a home, its price depreciates.
Needless to say, if you have overdue credit card dues, pay that off and then continue to read this article.
It’s the costliest of all loans, with the effective annual interest rate rising up to 48%.
By prioritizing your debts, you can reduce your interest charges and free up more money for investing.
Consider Refinancing Your Loans
If your loan instalments have risen, consider refinancing your loans or get the loan taken over by another bank.
Refinancing can lower your monthly payments and reduce your interest charges. Shop around for the best rates and terms and read the fine print before signing any loan agreement.
Look To Lower Your Investment Commitment
While having a disciplined approach to investing is central to generating returns, you must also remember that don't make investing stressful.
It's okay to lower your commitment temporarily and top it when the cycle turns. Of course, cycles do turn. Learn to be patient.
Seek Investment Advice
If you struggle to keep investing when loan instalments rise and savings fall, seek professional advice. An independent financial advisor can help you review your finances, create a budget, and develop an investment plan that is aligned with your goals.
You may hesitate to pay for independent financial advice, but that's the best solution. Sound financial advice can help you navigate the situation and emerge successful.