New investors often believe that wealth creation requires picking individual shares, but that is only one of several routes. Someone reading about intraday stocks for today may assume direct trading is the only way to participate in markets, and someone researching long term stock picks may think they must select every holding themselves. In reality, India offers a range of vehicles, each with its own strengths, costs and demands on your time. This article compares them frankly so that you can choose an approach that suits your life.
Direct Equity: Control With Responsibility
Direct equity means you have complete control over your investments and no fund management costs. The portfolio can be tailored to your beliefs, and those who invest in direct equity will benefit from holding quality businesses over the long term and having no unnecessary churn.
However, there is some effort required to do your own research, monitor performance, company governance and tax. There is also more concentration risk as you will be investing in fewer stocks. Those who enjoy analysing, have time to regularly invest and are disciplined will find direct equity suitable.
Mutual Funds – Professionally Managed & Diversified
Equity mutual funds allow many investors to pool their money and invest in a diversified portfolio of companies. These can be large cap, mid-cap, small cap, flexi-cap, sectoral and thematic funds. There are also index funds that simply mirror an index.
This is convenient, diversified and regulated as the portfolio and factsheet are available to view. The costs include the expense ratio, which can differ between the regular plan and direct plan (direct plans are cheaper as there is no distributor commission). The performance can vary as many actively managed funds struggle to outperform their benchmark. As a result, index funds have become popular due to their low costs.
Systematic Investment Plan – Rupee Cost Averaging
Systematic investment plans mean you can invest a set amount of money at regular intervals. This is usually monthly. During periods of high price, fewer units will be purchased and during periods of lower price, more units will be purchased. This will average out the cost of your investment.
The real benefit of doing this is that you’re using automation to invest. This will mean you invest during periods of optimism and fear. Many people who try to time their investments end up sitting on the sidelines. Those who are regularly contributing will build up their wealth gradually. Systematic investment plans work best if invested for 5-7 years or more.
Index Funds & Exchange Traded Funds
Index funds and exchange traded funds mirror the performance of an index like large company indices. They are low cost, well diversified and transparent. They are a good starting point for beginners as there is no pressure to pick winning stocks.
Exchange traded funds are traded on the stock exchange so you’ll need a demat account. It’s important to consider the liquidity and tracking error. Index mutual funds can be purchased directly from the fund house making them convenient for regular investing.
Core & Satellite Strategy
A good way to structure your investments would be to have a core of diversified index/flexi cap funds. This could make up the majority of your equity. Then having a smaller portion of satellite investments in direct equity or sector ideas. This provides stability but also means you can take advantage of any interesting opportunities.
This will depend on how much knowledge, time and risk you are willing to take. Beginners may want to keep their satellite portion very small and increase this as they gain more experience.
Consider Taxation, exit loads, liquidity and your personality. Equity funds and direct equity are taxed on capital gains depending on the length of time held and dividends are taxed. Consider whether you will stay calm during a downturn or be tempted to sell. Often a strategy with slightly lower returns but that you can stick to will perform better than a better strategy that you don’t stick to.
Ensure you are investing via registered intermediaries and check that any advisers are qualified. Be cautious of anyone offering guaranteed or exceptional returns.
Decide on your goals, how much time you have and your risk. If you don’t have much time then funds and systematic investment plans are a good efficient option. If you enjoy doing research then direct equity can be a good addition to your core of funds. Review your structure each year and make changes where necessary.
