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At the time when interest rates are falling, investment in equity appears the only way to beat inflation.
After the shock of the demonetisation, the stock markets have rallied nearly 30 per cent. New peaks have been scaled by the Sensex and the Nifty. These returns are highly attractive, especially at a time interest yields are falling on fixed deposits, small saving schemes, etc. You may be considering venturing your money into the stock markets. But you do not know which stocks to buy and how long to hold them for ensuring profits. Hence, for beginners in the stock market, investing in equity mutual funds makes life easy. Anyone can start buying mutual funds with sums as small as Rs 500. More conveniently, you can do this from home, without having to step into a branch or submit a single sheet of paper for your KYC. Let’s take a deeper look at equity mutual funds.
How equity MFs work
You can call equity mutual funds a communal buying of stocks. Here’s how it works. An equity mutual fund is a portfolio of equity securities managed by a fund manager who decides what stocks to buy, what to hold, and what to sell, and when. Individual investors pool in their money and entrust the fund manager to take their investment decisions. For his services, the fund manager charges a fee — his expense ratio.
What you own
When you buy an equity mutual fund, you are buying a portfolio of many stocks. A typical equity fund looks to invest in multiple companies across different sectors. Let’s take the example of an equity fund whose objective is to invest in large-cap companies. As of September 29 this year, its sizeable portfolio had 33.65 per cent in banks and financial companies, 8.43 per cent in technology companies, 8.07 per cent in automotive companies, 6.87 per cent in oil and gas, and so on. Among its top 10 holdings, it had HDFC Bank forming 6.68 per cent of its net assets, 4.54 in Infosys, 5.15 per cent in ICICI Bank, and so on. The fund portfolio is thus well-diversified, meaning that your hard-earned money is being allocated towards several different stock options. This helps create multiple streams of capital growth and cushions you against falls in certain stocks or sectors. You would be owning units of MFs purchased at their unit price (better known as NAV or Net Asset Value). If you invest Rs 5000 in a fund whose NAV is 100, you have purchased 50 units.
Better than buying stocks?
The average investor has neither the time nor the expertise to nominate and pick stocks that would provide him handsome returns. Which is why the investor passes the shovel work to the fund manager. Just as with stocks, you can buy and sell equity funds at any point in time. The taxation rules with respect to Long-Term and Short-Term Capital Gains tax for equity funds is the same as direct equity.
What are my returns?
Equity mutual funds as a category have outperformed long-term returns from bank deposits, small savings schemes, and gold. As per the CRISIL AMFI Equity Mutual Fund Performance Index for June 2017, the category as a whole has delivered a CAGR of 19.83 per cent in the preceding year, 12.84 per cent in three years, 17.82 per cent in five, and 11.56 per cent in 10. However, past returns are not guarantors of future returns, and you should examine the scheme documents carefully before picking any fund.
How to pick a fund
This is typically the most challenging part of equity investing. How do you know if a fund would continue to provide high returns in the future? The short answer: you don’t. You can approach investment advisors to help you pick a fund as per your investment objective. If you’re a DIY investor, you can go through the several data-rich mutual fund websites that will guide you towards a fund you like.
How to invest
It’s extremely easy to invest in mutual funds. Once you’ve shortlisted a fund, you can buy it directly from an AMC by visiting its branch or website. You can go online to create your account paperlessly, buy any fund from that AMC, and use the same account to also manage your investments. Apart from this, you can also buy any mutual fund through agents, aggregator websites and trading accounts. The ideal way to invest in equity mutual funds would be through SIPs, wherein you invest in a disciplined, consistent manner every month, thus averaging your purchase prices and hedging your risks.
Adhil Shetty is CEO, BankBazaar.com