After a short break, I am back to writing. First of all wish you all a very Happy Holi! Holi is a festival of colours, fun and the celebration of victory of good over evil. It has nothing to do with, what we are going to talk about today. In the last few weeks, many people have asked me this question. Specially in India, where unfortunately there are more sad stories about investing in stock markets than good stories. You will be amazed that only 2% of Indian population is exposed to stock markets as compared to 30 – 50% in developed countries like US, Australia, etc. Let us talk about the reason for this on some other day.
Today, I will give you one very basic reason as to why one should invest in stock markets. The simple answer is to generate better returns. First, let us look at some of the instruments available for people to invest.
- Fixed Deposits – Bank and Corporate FDs are the most common investing instruments. In India, one can earn anywhere from 7 – 9% on these instruments
- Gold – One of the favorite instrument of Indians (Men and Women alike), this one is used as something that can be passed on to generations. In the last couple of years, Gold has been really flat and with US on its way to increasing interest rates, looks like it will remain flat in the near future. But traditionally, people have been able to generate 10 – 12% annualized returns from Gold
- Real Estate – Any property (residential, land, commercial) that one buy’s apart from the one that is used for living, is a real estate investment. People often confuse their own home to be an investment but it is not. It is not generating any income. However, real estate is another good investment option available which people could take. Again, depending on the property and the research involved, one can look at 10 – 15% annualized returns
- Mutual Funds – In the last few years, mutual funds have become extremely popular in India. I want to write a separate post on this but for now, you can gauge that depending on the fund and the amount of time that you invest in the fund (generally, 3 – 5 years), one can expect anywhere from 9 – 25% annualized returns.
- Equity markets – Direct investment in equity markets can be divided into two parts. One is equity investment and another is derivatives trading. Based on proper research and analysis, one can generate excellent returns in the equity markets. We have been able to generate anywhere from 10% to 40 – 45% returns annually from the markets, depending on the products invested or traded. Now, whether that is good or bad, can be left totally to one’s judgement. Note that high returns comes with high risks.
People also think that they invest in PFs and Insurance but I consider PFs as more of saving instruments and Insurance more of risk instruments. Their basic purpose is not investing.
One needs to understand the reasons for investments before deciding which product to go for. I would list the following reasons:
- Achieve financial goals – If you don’t have a financial goal, you don’t know what you are aiming for. If you have a financial goal, you need means to achieve it. You can very well stick to savings but with investments you can reduce the time required to achieve the goals. Examples of financial goals could be 10 lakhs in 3 years. Or, I want to have 3 Crores by the age of 40. The goal should have a definite time frame and a definite value.
- Inflation – Inflation is the increase in prices of the products calculated per year. In India, the rate is around 6 – 7%. In simple language, it means that if I was able to buy a product for Rs. 100 on 1st Jan 2016, then the same product will cost me about Rs. 106 – Rs. 107 on 1st Jan 2017. If you are investing in a product which gives less than 6 – 7% or if you are keeping your money in a savings account which gives about 4%, it means that your money is actually depreciating and not appreciating.
- Accommodate taxes – One also needs to understand that the income that is generated also has taxes associated with it. If you are investing in equity and holding the investment for more than 1 year, then you do not pay any tax on the profits generated from the investment. It gives you the tax advantage and also encourages long term taxes. Just to give you an idea of this point, with an example: Assuming you invest Rs. 10 lakh in markets today and hold it for the next 20 years. At a compound interest rate of 12%, you are looking at reaching about Rs. 96 lakhs approximately. If there were taxes on equity beyond 1 year, you would be paying around Rs. 28 lakhs in taxes but you end up saving this amount.
- Diversify – Do not put all your eggs in one basket. Do not put all your investments in just one product. I am not saying just buy equities but have equity an important portion of your invested income. The younger you are, the more you can take the exposure against equity. There is not hard and fast rule as to how much one should invest and it totally depends on one’s risk appetite.
- Liquidity – Like any other financial products, equity also gives a lot of liquidity. Withdrawing funds has become very easy. Once you put the request, a broker can transfer the money back into you account the very next day.
I hope I have been able to throw some light on different kind of investments and the reasons for investing in equity. As usual, would appreciate your comments and inputs. Until next post, Happy Investing!
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