About Investments.

About Investments - Money Matters.

This post is about investments. Investment is an advanced form of saving wherein people deposit large sums of money with the intention of getting more money in return. Investments are made by utilizing our savings to create opportunities for future. People invest money to increase their wealth.

Meaning of Investment.

Investment means saving or utilizing large amounts of money by way of depositing or by spending for a well defined commercial plan with an objective of getting larger returns or for creating opportunities for earning. Saving is the first step in investment. We use money from our savings for investment. The little amount of money that we save every month becomes a big amount by the end of the year and this money can be used for investment. We cannot start an investment without saving: all Investments have a base in savings.

Investment Avenues.

Investment avenues are many like fixed deposits, life insurance, mutual funds, equity stocks, real estate, gold etc. Of these, fixed deposits and life insurance have the least risk. The returns in fixed deposits and some endowment plans in life insurance are guaranteed even though they are low in comparison to mutual funds and equities.

Equities and mutual funds have a much higher return but they are not guaranteed as there is an element of risk involved in them. Real estate is also an avenue for investment but it requires a lot of money. While there is scope for high returns, there are associated risks in it. Gold is yet another investment option, but it too has some disadvantages. We will discuss these investment options in brief.

Investment in Fixed Deposits.

Fixed deposits are good for savings and investments. Fixed deposits can be a savings option for people with low income and it could be an investment option for people with high income. We can start a fixed deposit with as low as Rupees 1000/-. There is no limit on the maximum amount which we can deposit in it. We get an interest on the deposited amount at the rate of 6% to 7% annually. There is a tenure for fixed deposits. The account holder or the investor receives money (principal amount and its interest) when the tenure ends.

Investments in Life Insurance.

Life insurance is suitable for all income groups. It is good for savings and investments. Life insurance offers both guaranteed and non-guaranteed plans. The guaranteed plans are those which give returns as promised in the benefit illustration. Benefit illustrations are given to customers to make them aware of the benefits they get when they buy the policy. When a person buys a guaranteed plan like an endowment policy, he receives all the benefits as stated in the illustration. The guaranteed products are suitable for people who don't want to risk their investments.

The non-guaranteed products may have variable returns. The unit linked insurance plan (ULIP) comes under this category. The returns may be high or low depending upon the performance of the company.

Investment in Mutual Funds.

Mutual funds, as the name suggests, are investments which are made by people who agree mutually to contribute to collective funds. In mutual funds, the money collected from many people are invested in equities and debt funds or a combination of both by the fund manager to get good returns.

In mutual funds, the money is invested in high growth instruments like stocks which has some risks. The fund manager monitors such stocks and takes suitable steps to retain the value of investors money when there is a downward trend.

Investment in Equity Shares.

Like mutual funds, investments in equities are high in returns, but has risks. The investor purchases shares and sells them at an appropriate price to make profit. The investor is interested only in those shares which gives him maximum returns, but selecting such stocks and investing in them is a tricky business. We may incur loss if we invest in a stock which is not likely to perform well.

Trading and Demat Account.

We have to open a trading account and demat account to start investments in shares. A trading account is required for buying or selling shares; a demat account is needed for storing shares of companies that we buy online.

Demat is the short form used for the word dematerialization. This term is used to describe the process of storing shares through an electronic medium when they are purchased online. When we purchase anything valuable, we get a document to establish the ownership of that product or service. The documents usually are papers with printed information, e.g., we get RC book when we buy a motor vehicle and an invoice or bill for other products. Similarly, we get share certificate when we buy shares. The shares we buy are stored in demat account which can be accessed through a computer from anywhere and so hard copies of share certificates are not required anymore to verify ownership.

Buying and Selling Shares.

Shares are bought and sold like any other commodity. It is an online trade where the buyer purchases shares from the seller by paying the price for all the shares he wants. A person becomes shareholder of the company whose shares he buys. When we buy shares at a lower price and sell them for a higher price, we make profit and this is how investors make money from shares. A shareholder benefits when he gets good dividend from the company he invests in.

Investments in Real Estate.

Real estate is an investment option for them who have good financial background. Investments in real estate are made through purchase of an immovable asset or property such as a residential flat, vacant rooms for shops, a house, a plot or piece of land etc. Usually these properties are leased out or rented to generate income every month.

Investment in real estate is not easy because of two main reasons:

1. The money required to invest in real estate is very large and so it is not an easy task.
2. The returns or the benefits from such investments could take a long time and may not be always as per our expectation.

However, there are successful investors in this field who know the business well and who have made it profitable for them.

Investment in Gold.

Gold has value which is unmatched among metals. As in real estate, investments in gold are made by buying it, but unlike real estate, it is not rented. The value of gold will never diminish even though its price may go up and down. Gold bought in any form is an investment because there is always a potential for liquidity and returns. People usually buy gold for personal purposes like wedding and when they buy it, it becomes an investment.

Gold can be liquidated quickly and so its asset value is high. We can get a fair price for gold if we sell it to authorized dealers. However, gold has some disadvantages too:

• Gold requires high security storage facility.
• The purity of gold is difficult to determine which could make the buyer susceptible to misappropriation.

Another option which is best suited for people who want to invest in gold and at the same time avoid the above mentioned disadvantages is the sovereign gold bond scheme by the Reserve Bank Of India. Through this scheme, an individual can purchase gold bonds at prevailing price which is as good as buying gold in physical form. There is no risk of theft and no room for doubts regarding purity because the gold is in dematerialized form. It is as good as pure gold and its value is equal to 999 gold.

Returns in Investments.

People invest money with the objective of getting maximum returns. Everybody wants to become rich in the quickest possible time. That is the reason why so many people prefer to invest in products that give high returns quickly.

There are three probable outcomes of an investment.

1. Returns will be higher than the money invested.
2. Returns could be just equal to the invested money.
3. Returns could be lower than the invested money.

We all know that among these three, only the first outcome is worth considering because nobody would like to invest their hard earned money in something they are not sure about.

Based on returns, an investment could be classified into two categories: Guaranteed and non guaranteed.

Guaranteed Returns.

The investor knows the benefits he is going to get if he opts for an investment plan with guaranteed returns. People benefit when they invest for some years in avenues where risks are negligible and returns are reasonable. Examples for this are fixed deposits and life insurance's guaranteed endowment plans. Risks get absolved when the returns are guaranteed.

Non-guaranteed Returns.

The word non-guaranteed simply means variable returns in investments which could be lower or may be higher than what has been predicted. The returns in non-guaranteed investment plans cannot be pre calculated accurately which is why it is considered risky.

Equity shares, mutual funds, unit linked insurance plans (ULIP) and real estate investments do not guarantee returns just as fixed deposits and guaranteed life insurance plans do. This does not mean that they are not good for the investor; it simply means that they might be risky. It is also a fact that these so called non guaranteed plans have made many investors rich by giving yields far more than what they might have expected.

Lets see how much returns these investments provide:

• Fixed Deposits: 7%
• Life Insurance: 4.50 to 6.0%
• Mutual Funds: 12 to 14%
• Equity Stocks: 12 to 19%
• Real Estate: 5 to 10% 
• Gold: 2.5% (sovereign gold bonds).

Risks in Investments.

As mentioned earlier, an investment with high returns may also have some risks which, if not assessed properly before investing could prove counterproductive. People sometimes say that those who have the courage to face risks make the most profit. This may be true to some extent, but we should be aware of the nature of risks before facing them. Following somebody, who made profit by putting money in a high risk investment, may not guarantee same outcome every time and for everyone. This is where we have to be careful. A high risk investment is never recommended for a person who has an average financial position.

Risk in Shares and Mutual Funds.

Investments in shares are considered risky not because the share price keeps on changing; it is because the change could be negative when an investor buy too much shares. So, when people buy too much shares in the hope that the share price will increase further and when that doesn't happen, they face risk of losing their money. Risks in mutual funds are similar to direct trading in shares.

Risk in Real Estate.

Real estate requires a lot of money. Often people invest in real estate by taking loans. If the property remain idle for a long time, the investment becomes unproductive. The burden of debt does not ease due to this which makes such investments risky.

Risk in Gold.

People buy gold in the form of jewelry like bangles, chains, rings, bracelets etc. Investments in Gold are considered risky because of its high value. Gold in physical form requires high security. People who keep gold in their houses worry the most about its security. The loss is huge if gold is lost or gets stolen.

Tax on Returns.

Returns in investments are generally taxable, but there are exceptions too. The returns from life insurance is exempted from tax under section 80C of the income tax act. Similarly, if an investor buys shares and holds them up (without selling them) for more than a year, then such transactions are called long term capital gains which also is not taxable up to limit of Rupees 1 Lakh. When income or returns from investments exceed a specified limit, they are taxed. A tax of 10% is applicable for fixed deposits if the interest gained on them are more than Rs. 10,000/-.

Some people worry unnecessarily about paying tax. They become selective in investment. They keep on searching for products that give them the maximum tax benefits and won't make an investment until they get one. Taxes are meant to be paid. When we pay tax, we should get the satisfaction of being better financially.

Suggestions which may help investors in their pursuit of creating wealth.

(1) Enquire before investing: Always enquire about the company, the broker, the products, the benefits and services we get and the charges involved before investing.

(2) Never invest too much in shares: Never invest all your money in shares. Shares are good, but they are risky too. Share market is full of ups and downs. It can make people rich quickly and can also make them poor with same quickness. People get lured by the idea of making quick money, but sometimes, quick money turns out to be as dangerous as quicksand. We should learn about share markets properly before investing in them.

(3) Diversify your investments: Diversify your investment as it helps to reduce risk and is fruitful in the long run. Invest in FDs, life insurance, mutual funds and equities in varying proportions.

(4) Don't over invest: Investment requires money. If you pack all your money into investments, then liquidity could become a problem.

Investment is a long term exercise. We have to wait a lot for our investments to grow and mature. Like most things, investments may have some shortcomings, but advantages outnumber them which is why they are justified.

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The previous post was "About Loans".

The next post is about Insurance.

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