Initial Investment: Back in 2000, four friends made a New Year resolution to invest their savings of about Rs. 50,000/- each with the intention to ‘invest and forget’. Accordingly, on 01 Apr 2000, in the new financial year, friend A bought 7093 shares of AXIS Bank @ purchase value of Rs. 50,006/-, B bought 1015 shares of HDFC Bank @ purchase value of Rs. 50,029/- and C bought 2571 shares of SBI @ purchase value of Rs. 50,006/-. However, their fourth friend, being conservative, invested his savings in the cumulative FD of SBI @ 9.5% initial interest rate. Now in 2018, they decided to see their investment values and compare their returns. Thus, what they saw of their returns astonished them and we have summarized it below for your better understanding:
|Investment||Type||Amount Invested on 01 Apr 2000||Value on 01 Feb 2018||Growth of Corpus||XIRR||Dividend|
|AXIS Bank (Friend A)||Shares (Ownership)||50,006||38,14,261||7528%||27%||1880%|
|HDFC Bank (Friend B)||Shares (Ownership)||50,029||19,07,946||3714%||23%||3008%|
|SBI (Friend C)||Shares (Ownership)||50,006||6,98,669||1297%||16%||3750%|
|SBI (Friend D)||FD (Investment)||50,000||1,96,315||293%||8%||0%|
- The holding period of the securities is 6515 days or 17 years and 10 months.
- The FD is quarterly compounding and a cumulative deposit.
- Dividend earned is on the face value of the shares .
Concept of Ownership: This concept entails that you buy shares of the bank or company that you want to take ownership. Buying some shares of the bank/company makes you a shareholder and provides your part ownership. However, prudence demands that before buying these shares you must check the fundamentals of the company to be sure that you put your money on a winner. The other point to be borne in mind is that you should undertake ownership for a long duration to cater for adverse market cycles and give time for the bank/company to grow adequately. Nevertheless, a word of caution that ownership is subject to market risks and subject
Concept of Fixed Investment: In this concept, you give your money to a bank/company for investment in a fixed deposit. By this, you ensure capital protection of your money but the returns are far lower than ownership. In fact, at times these returns cannot even beat the inflationary costs and gradually erodes the time value of you money. In the given example, the bank gives you a XIRR of 8% on your cumulative FD investment. In case, you require a business loan of larger amount then the same bank will provide a loan at 12%. Now, if you have to repay this loan, then your investments must fetch you a minimum of 18% return to repay and beat the inflation.
Taxation: As per the taxation policy in vogue, the capital gains (difference of sale value from cost value) from shares is taxable only in the short term (less than one year holding) @15%. No tax is applicable in the long term (more than one year holding). However, the income (interest) from FD is taxable at the applicable tax slab rate of the investor, irrespective of its holding period. The 2018 budgetary proposal has introduced long-term capital gains tax @10% (without indexation) on gains more than Rs 1 Lakh with effect from 01 Apr 18, but left short-term gains and interest income taxation unchanged.
Asset Allocation: An investor must remember that he must not risk everything in one type of investment. He must follow the cardinal principle of diversification of asset allocation and invest in equity as per his risk return profile, which is function of his age, risk appetite and liabilities. Normally you must invest 100 minus your age percentage in equity. Therefore, if your age is 60 then you may allocate up to 40% of your investments towards equity or if your age is 30 then the equity exposure can go up to 70%.
Lessons: Owning shares is ownership of the bank/company and is beneficial in the long-term than merely investing in FDs. Firstly, shares give much higher returns than fixed income instruments. Secondly, shares additionally earn dividend income that does not come with fixed income instruments. Thirdly, shares have lesser tax liability than fixed income instruments. However, while investment in fixed income instruments ensures capital protection, investment in shares is subject to market risk. Therefore, have faith in ownership of shares with a long-term investment horizon of more than 7 years.
Disclaimer: We have obtained the data for the above chart and graphs from Moneycontrol.com and RBI site. This example is to highlight that ownership is better than investment but equity investments are subject to market risks.