It’s a valid question and I know many who have this question in mind are looking for an answer. Reason is simple, no one earlier used to advertise mutual funds as much as insurances or ULIPs, hence it’s still something new for many. But, now there’s plenty of info available about mutual funds all over the internet, if one has access to the internet and some interest to explore. This article is my little effort to tell people the pros and cons of investing in mutual funds.
Who would invest: The masses, general public; because mutual fund is something where you can invest as low as just Rs 500 per month. People having abundant money, would choose to invest in land, house, commercial complex or gold rather.
What investment options are available and generally bought:
- Immovable property: Like house, land or commercial complexes. Huge amount of money is required to buy them; they give back humongous returns too if invested in right time and place. So if you have the money then probably you don’t need mutual funds.
- Gold: This isn’t as lucrative an option to invest as it used to be, many years ago; for quite some time the good rates are pretty stagnant. Also lot of money is required to buy gold, it isn’t cheap by any means.
- Stock market: This is a very good and evergreen option if you have the time and knowledge; else it is a gamble.
- ULIP: The return earned at the end could be more than endowment policies because they invest your money in stock market, however it still isn’t worth the time and money, in most of the cases. The premiums are quite high and also there could be commissions.
- Endowment Insurance plans: The return earned at the end isn’t worth the time and money, in most of the cases. The premiums are quite high and also there could be commissions. They sell it saying it would provide good returns as well as life insurance.
- PPF: Too flexible while investing, you may end up saving less than you should have. Doesn’t help you to become a disciplined investor. It needs you to invest only a meager amount every year. You may invest more but that’s not mandatory. Also there is a long lock in period until completion of which you can’t withdraw the entire money. Only advantage is that the return is tax free. To be invested primarily via banks.
- NPS: Similar to PPF in some aspects, but the returns are not tax free. It invests your money in stocks but you have no control on which stocks. Investment via banks. It’s like pension for private sector employees.
- Fixed deposits: This is a very old school method that’s not flexible at all. You’ll have to keep certain amount of money in the bank and forget about it for years, only then you gain some interest, and that’s taxable.
- Savings accounts: This shouldn’t be called investment. Rather it’s an investment for the bank where they keep people’s money. They earn interest by lending the money to others and give the account holder a paltry percentage of the interest earned.
Now, how are mutual funds different from the above:
- Ease of investment: Opening accounts and starting to invest in mutual funds is no big deal, now a days. Read my this post to know different ways to invest in mutual funds.
- Flexibility while investing: One may choose to invest in lump sum, yearly, monthly or anytime he or she wants. However, the most efficient and disciplined way is via monthly ECS option.
- Flexibility while withdrawing: You may redeem any number of units in your funds, any time. It takes just a few days for the funds to get credited in your bank account.
- Disciplined investment: As already written above, you may choose to setup ECS instructions in your bank account to automatically invest a fixed amount in one or more mutual funds of your choice, on a specified date every month. This way you don’t have to remember paying the same every month and the funds grow without even you realizing. Make sure to choose good funds though.
- Lock in period: There are tax saving mutual funds that help you save some tax, just like insurances, however in those there is a lock in period of 3 years. If you withdraw the invested money before 3 years then you don’t get income tax benefits.
- Returns: If chosen carefully, it’s not difficult to get a return of above 10%. Actually I’m playing extremely safe here, otherwise it’s normally more than 10%.
I’ve seen many colleagues of mine who still don’t plan their investments in time and just before the end of the financial year buy just anything to save tax; that’s and extremely bad way of investing. Now you would ask what’s a better way of investing then? To understand that let’s see why we invest in first place. Some of the reasons we invest for are:
- To save tax.
- Provide insurance cover to family.
- Health insurance or Mediclaim.
- Generate money for short or long term goals.
- Retirement planning.
What most of us normally do:
Buy some endowment plans from some so called reliable companies paying heavy premiums. Then we deceive ourselves saying it’ll give insurance benefit and good return. For one of the most popular plans one has to pay about 16k per year for a sum assured of Rs 3,00,000. If it’s me, I would say that the 3L will be spent in the last rites itself if something happens to me, what would be left for the dependents after that?
It’s almost the same in case of ULIPs too. It’s considered to give better return than an endowment plan because it invests in equity, but nothing is guaranteed. Pay heavy premiums and get probably peanuts in return.
Putting some money in fixed deposits is also another option out there. Besides, some people go and buy some shares, bonds etc. too without considering much on whether it’s really going to earn them good returns.
What we should do:
Now let’s see what are some of the good options for a common man to put his/her money. We’ll divide it first into two categories i.e. Insurance and Investment, because we shouldn’t mix insurance with investment, they are meant for different purposes and they are both very much required.
Life Insurance: This is meant to take care of one’s dependents when he/she is not there due to any unfortunate event. Now just think if he/she had bought an insurance of sum assured Rs 3,00,000 only, how long the dependents will be able to sustain on that? So he/she should have made a rough estimate on how much money his/her dependents would need after such an event, which will be enough for them to sustain thereafter. Then appropriate insurance cover should have been bought accordingly. If you go for an endowment or ULIP, a sum assured of just Rs 3,00,000 would command a premium of about 16k per month, which is too high.
So what is the option then? Look for something called “Term Insurance“. Many people don’t even consider term plans because it doesn’t give you back any money at all, post maturity, not even the premium you had paid. But the good thing is that depending on your age, with that Rs 16,000 per year you can probably buy a term plan or term insurance for Rs 1 Crore sum assured. In this case if something happens to the insured, then the dependents will get Rs 1 Crore, which is really a huge amount that they can sustain on. Remember, this is insurance and NOT investment, so don’t emphasize on how much return you’re getting on maturity, rather think how much money your dependents would get when the insured is not there. Just think if you buy an endowment plan or ULIP for sum assured of Rs 1 Crore, how much the yearly premium would be. So you’re saving a lot of money here on insurance premium and getting huge insurance cover. Prefer those term insurances that need medical checkup before issuing the insurance; it’ll be difficult for them to reject a claim later, citing pre-existing disease.
Medical Insurance: This is the next most important thing to be taken care. If you realize the cost of treatments in good hospitals now a days, then you’ll agree that it’s almost impossible to pay the bills of big hospitals without adequate medical insurance cover. Buy a medical insurance for the entire family even if your employer provides one. Because just think about an unfortunate even where you’re transitioning from one job to another and someone in family needs hospitalization. Now a days there is a cheaper option also called “Group medical insurance“. Some banks like PNB, Union Bank, Dena Bank etc. provide this facility to their customers at a pre-bargained rate. You’ll have to open a savings account in one such banks and then opt for their group medical insurance plan. Compare the plans provided by various banks before hand to choose what suits you the best.
Investment: After buying the Life and Medical insurances mentioned above, whatever money you’re left with, can be invested, after keeping some aside as emergency fund. Investing means putting your money where it’ll grow. In my opinion mutual funds are the best, I have already written the qualities of mutual funds above. Mutual funds normally give good returns because they invest our money in stock market. However the mutual funds needs to be carefully selected before investing in them. Look at their portfolio, which means which companies they’re investing in, if you see growth in the portfolio, then go ahead with that fund. If you’re not very confident on selecting a fund, you may get help from a friend with better understanding or even professional help for the same. Also make it a point to review your mutual funds once in 6 months to get idea on what’s working and what’s not; you may then keep or exit a fund accordingly. Also since the portfolios of the mutual funds are managed by highly competent fund managers, chances of making loss are low. Also there may be ups and downs in short term, but stay invested, if the portfolio is good it’ll surely recover. Also there are various types of mutual funds like equity, debt, hybrid, money market etc. to suit your risk appetite.
I’m aware that mutual fund returns also are now taxable, however, that’s 10% of the capital gain only and you still get handsome amount after that. Given below is how the investment and insurance goals can be met:
- To save tax. (Mutual Funds, Life Insurance, Medical Insurance)
- Provide insurance cover to family. (Life Insurance)
- Health insurance or Mediclaim. (Medical Insurance)
- Generate money for short or long term goals. (Mutual Funds)
- Retirement planning. (Mutual Funds)
I think that’s quite a lot for many to read and digest, so I’m stopping here, wising you all the very best with your investments.
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