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Wealth Special: Investment myths debunked!

Wealth Special: Investment myths debunked!

Risk perception is so high that more than 90 pc Indians don't invest in equity.

Most of us perceive only equity as risky.

In fact, this risk perception is so high that more than 90 per cent of Indian households do not invest in equity at all.

As a result, we invest in the so-called safe investment options and believe in the following myths:

Myth 1: My locker is the safest

Fine, let's go by that for a while! Now, assume you need Rs 12,000 per month to meet your household expenses. And let's say the inflation rate is 8 per cent per annum.

After a year, thanks to rising inflation, things would keep getting expensive and the amount of Rs 12,000 will suffice you only for 28 days (in a month) after 1 year and 26 days after 2 years. And within 9 years, you will barely survive for 15 days on Rs 12,000, which you kept in your locker.

So, the moment you have money, inflation will erode its value day-by-day, year-by-year, decade-by-decade.

Myth 2: FDs help create good wealth

Let's say you choose to invest money in fixed deposits (in India, the investment in Bank FDs is nearly ten times the money in MFs). Today, inflation is around 10 to 12 per cent, and the interest rates are also around 10 to 12 per cent, so it seems like you could keep pace with inflation. This is only partially right.

This is because interest received on FDs is taxable. So, except for those who fall in the 'Nil' tax bracket, most of us would have to pay tax ranging from 10 per cent to 30 per cent. Clearly, the post-tax returns will be lower than inflation.

This means, even with FDs, the low post-tax, post-inflation returns will ensure that the survival becomes difficult year after year.

And, wealth creation is practically ruled out.

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Myth 3: PPF gives me good tax-free returns

  • Yes, the money is safe. The Government will not default.
  • Yes, the returns are tax-free.

However, inflation plays spoilsport here again. Inflation, today, is at 11 to 12 per cent, but PPF returns are only 8 per cent. So, during the 15-year tenure, we may see some periods of negative returns too.

And what's the risk? About 10 years back I opened a PPF account. The rate at that time was 12.5 per cent and I was happy. But since 2000, the Government started reducing the rate progressively and is now paying only 8 per cent. This 'interest-rate' risk is something we don't really take into account.

And who knows if two-three years down the line, due to the changing economic climate, the Government might give a lower interest than 8 per cent also!

Myth 4: In equity I will lose every penny

Sure, in equity you can lose every penny as compared to the aforementioned investment options, where at least the principal is safe.

But this safety comes at a cost, that is, reduction in the buying power of that principal. Safety is not free!

Moreover, statistics show that if you kept investing in equity regularly over the last 15-20 years, irrespective of what the markets were doing, you would have made returns of 16 to 17 per cent per annum. Here, we not only beat inflation, but also create wealth.

Therefore, the risk is NOT in equity per se; but in our investment style. Build a portfolio of good companies/mutual funds, start SIPs and take a 10-15 year horizon, and the probability of losing money in equity would be almost zero.

In conclusion:

1. Not investing at all is NOT risk free.

2. There is no such thing as a risk-free investment.

3. There is no running away from risk.

4. You must understand the true nature of risk in each investment category.

5. Invest suitably across various assets so as to have a balance of safety-risk-liquidity-returns.

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first published:November 10, 2008, 10:50 IST