Where to Invest Today -- Debt or Equity Mutual Fund Scheme

If you talk to any investor today where he wants to invest his obvious choice is Debt investment be it Fixed Deposit , Bonds , Debt MF . The reasons are clarity and assurance of some quantum of return vis a vis Equity products which on one hand have given poor return on historical basis up to 5 year period and also sentiments on economic and business front not so encouraging considering negativism and pessimism from all sides be the Government, Industries, Market movers etc . What is more disturbing that the players operating in equity side mainly AMC to a large extent they seems lot shaky on Equity MF product and has been mainly focussing on Debt product as it is easy to mobilise money from that side considering present day investment and sentiment .

No financial asset or Product can be categorised as Bad . All financial product have certain inbuilt risk and that was there 50 years back and will always be there because that is the basic characteristic of that product category . Risk in simplest terms can be defined as the variability in expected return . It is the economic situation that dilutes or magnifies the risks depending being in positive or negative stage .

Let us analyse present situation . A debt investor is happy to get 9-10% annualised return last 1 year but it has come on the backdrop of high interest rate . Why high interest rate ? because of high inflation , real return from debt side had to be positive so interest rate has to be more than inflation .  Is high inflation or high interest rate a positive scenario in a growing or developed economy . All developed economy have thrived on low interest rate last many decades so even if a debt investor feels he has gained a lot from his debt investment he has to remember it is an outcome from not so favourable economic situation . No business like high interest rate scenario as there is higher interest pay out and it eats their profit .

Debt investment is like a loan where entity with surplus gives at a some cost to entity with deficit which requires the money. The cost is called interest . Naturally one that gives money would like more interest and one that has to pay interest will like to pay as less as possible and balance is struck depending on credit worthiness of one which requires , time for which taken , nature of work for which money taken , and his level of urgency .  Its clear that the two parties involved look their respective gain i.e. interest rate in different direction and so expecting debt investment return always rising or very high is not at all possible on consistent basis . If you look historically return from debt investment is always range bound and mostly have been in 6-14% range on any time scale.

If I look in Equity Investment side , one with surplus puts money in business of the other entity ( through direct investment , buy shares , Equity MF schemes , PE etc ) . Here the objective is to partner for growth and more return. Interest  of both the entities is in same direction and not opposing each other .   If you look historically return from equity has big range in shorter duration but once moves in longer time duration it range gets narrow and moves in high positives which implies more assurance on quantum of return

Lets see two entities one big , proven business , track record of good sales, profit and then 2^nd entity small , not proven , no or less track record of sales , profit. If one does debt investment and evaluate from return and safety perspective he finds the first entity will be willing to pay at lesser interest rate for the money it raises from investor than the second entity so as an investor one gets more return from 2^nd entity but at the cost of safety of his money. So if safety was the criteria of investing in debt then investor has not acted wisely by loaning money to 2^nd entity . So it is a trade off between safety and return if you opt for which entity to loan or do debt investment with.

Again lets look from equity investment perspective – with whose business I would like to get associated . Obviously first entity as I stand to gain more in return from there than the 2^nd one. So if return and safety was the criteria for investment one has taken right decision on both parameter  .

Investing in any asset or product has to be done with proper conviction . One should know very well what to expect from the product in terms of return and how long to wait for it . The problem which has been is most investors take a trailing decision i.e. follow the experience of other in anticipation to feel the same . One has seen someone getting 50% return and seeing that puts the money expecting to get the same . It might happen or might not also. The 2^nd investor needs to see that in most case he has entered the upward growing return curve at the time when it has already reached some height and so one he has missed the opportunity which the first one has benefitted  and the factors which led so steep rise in first instance will it remain to be there ?. Return from equity comes from the business ( product, sales , profit ) and it is helped or negated  by economic situation positivity or negativity .

Returns from Equity Mutual Fund scheme and Debt Mutual Fund scheme are function of time . If one takes on time scale will find return from debt schemes  safe and its quantum assured and known for 0 to 6 month period which is total different in case of equity scheme which can range from negative to positive return, very high to low return . If again one takes 6 month to 2 year period return from debt shows similar behaviour but with some variability in quantum of assured and known return and in equity category the range of variability might be a bit lesser than first instance . Again moving from 2 year to 3 year or 5 year one will find more variability in assurance on quantum of return from debt side than the previous instance and in equity again lesser variability in return than previous instance.

Reason for above is that there is more risk in debt as time horizon is longer because of repayment risk , due to inflation interest rate can change so interest rate risk , due to change in interest rate there will be reinvestment risk of interest money . It is as simple as that if we give some one money we feel safe if the person say he will return money in 6 month than the person who says will return money in 6 years .  Whereas in equity mf investment if the business is doing well , products are getting sold more, profit is on rise then more positivity is created in the mind of all stakeholders be in consumer, promoter, investor and this adds for more concerted effort to drive further sales , revenue, profit and thus return to investor .

So the learning is variability in return and assurance of quantum of return from both Debt and Equity MF schemes moves in different direction on time scale. On lesser time horizon debt investment in better choice and in longer time duration equity investment is a better choice . The only dilemma is what is the long term . To me the level from which additional return from debt investment becomes negligible or there is return from equity balances that of debt and from this time horizon lesser possibility of return from equity going down vis a vis debt investment all incremental investment should flow in to equity mf scheme but the caveat is to have conviction , faith and patience .

Does it make sense to invest in Equity MF when chips are down

Well if today we ask anyone to invest in Equity MF then that person will give you a good hard look and will ask are you in your senses ? How come you can ask this question when you know what has been the return in last some years. Yes it is true that even last 5 years return in Equity fund does not look very attractive and so this repulsion toward Equity MF investment.

There are always two way of deciding, one from heart and another from brain. The decision from heart is mostly emotional and at times may lead to wrong decision but by the end of the day we are all human beings and at times heart rules the brain. When we use the brain we are logical and evaluate pros and cons and prove correct most of times.

Now a simple fact – why we invest ? obviously to see money growing. So we want the money to grow but not see it losing its value.

Stock market went up to 21000 level and then have been in 18000 levels for quite a long time and then last few months going down to 16000 level. Well only God Knows what holds next. As there is a famous proverb – there is no point crying over spilt milk, I believe this is what investors should be also doing. Now we cannot undo of past but take some corrective measures to cover up losses and also go for gain.

Firstly market never went so fast and quick (2004 to 2007) and one doubts history will not repeat so quickly at least in coming decade.  Knowing this if I have to take a decision whether to invest in Equity MF schemes or not I will definitely say yes but with some clear cut preconditions.

Whether we should be investing in Equity MF or not today has to be seen in prospective light and not retrospective light which is the mistake which most investor does and at times repents also. So the first question is how much we are positive or negative as far as earnings from Indian Corporates are concerned. If the business growth looks bleak then one has to evaluate how long -1 year, 2 year , 3 year or 5 year or ….. Yes many companies performance have dipped but its not that they are making losses. Most of the Indian corporates have realised the situation and have moderated their cost and revenue structure. So if anyone buying any stock or Equity MF it is at the cost of today and not cost of peak (2007-08) which is at huge discount from that level. Good companies will continue to earn and investors interest will remain from them in stock market and so will be valuation and revaluation at higher level.

When anyone invests in Equity MF , he is indirectly acquiring the shares of the companies which form part of the portfolio so in today’s context more important to be seen is which type of stocks are part of portfolio and if one is comfortable that the companies are all good one so one can expect good returns.

The second aspect is time. Now again since present and near future does not look very good or in other words there seems some uncertainty from domestic (macro perspective, govt perspective) and  global perspective there could be some negative impact in short term but ultimately after every night they is a day, after every storm there is serenity and one believes that even if there will not be bull run of what we have seen in past but returns will start coming once all negatives are fully accounted for and if one believes in natural law of progression then it is bound to happen sooner or later. But still since short term uncertainty exists one has to be sure of 5 year stay.

If you are buying an Equity MF which has a portfolio of good company stocks, which are generating revenue and the fund manager has proven track record then there is not much to worry. So now investors have to be cautious on type of fund. Not all funds can be suggested to go for investment and only proven ones, time tested ones are worthy candidates for investment.

Even if immediate past is haunting us and near future does create some doubt in our mind but again we have to believe one thing that today we are living in materialistic world where we are dependent on certain products, some products are part of life and some we go for it is part of our desire, changed lifestyle and so we can say that these companies will not wither away and stay growing because of demand and so stocks of these companies will find rise in prices in progressive manner and so gets our Equity MF return enhanced.

Investors have to understand VALUE and VALUATION. Valuation is dynamic and determined mostly by market sentiments whereas Value is determined by the actual benefit that company generates. Valuations are cheap and attractive because sentiments are low but value is something which has been created over many years, decades and linked with company’s business, products and large customer base they hold. So VALUE which has been created through efforts of many years or good business performance can never be undone by low valuations. So investors look at value in equity and keep long term faith and you will earn good return.

Again I repeat after every dark night there is a bright sunny day.

Balance between Safety and Growth

We believe 3 things are to be taken care by any individual:-

v  Safety of self and family

v  Safety of money

v  Growth of money

Safeguarding your interest i.e. Safety aspect is more important. Once that is ensured, Growth of your money is the next consideration.

Safety of self and family – Ensure you have adequate Life Cover, Medical Cover and Accident Cover.

 Insurance should be an important part of your savings portfolio. Because in the event of any misfortune, a well-planned life insurance can protect your loved ones from financial difficulties.

As a thumb rule your life cover or term plan should be at least 8 to10 times of your Annual Income or it should be considering your Human Life Value i.e.  Considering the earning potential of future income in remaining =years of your working life.

Secondly it includes health cover which provides cover against major health care expenses in the form of fixed pay outs on hospitalization or a lump sum on diagnosis against some specified critical illnesses.

Lastly safety includes an add-on cover of accidental benefit over a basic policy which pays an additional sum assured to the beneficiary in case of death due to accident.

So it is a humble request, please check your insurance needs on the above basis

Next Safety of your Money: - It simply means that when you require money you get the amount what you want i.e. no loss of capital. It has to be seen in time perspective as one has to be well prepared for expenses which are in near times and one cannot take the risk of any loss. So this is again looked from two perspective (1) Sudden (2) Expected expenses.

Sudden – Any emergency or unexpected need. Choice of investment is Liquid fund or money in SB Account. As far as quantum is concerned it should be 0 – 3 month of monthly expenses. We do not consider it as investment as return is not at a consideration .

Expected Expenses – Two major consideration (1) idea of any planned expenses e.g education fee , wedding cost in family , holiday etc falling within 3 years  (2) dependent on that money to run family expenses if required or say if worse situation arises due to loss of job .Here apart from return safety, income and regularity of cash inflow are major consideration. This just gives mental comfort and makes one tension free even if facing with worst financial distress. The investment suggested is Debt (Income fund / FMP /Fixed Deposit).

Amount in debt fund to be tension free (a thumb rule -- 36 month of monthly expenses apart from any planned expenses. It can go up to 60 month for those who are more conservative but not suggested beyond that as return from equity will always be better than debt after that. )

 An Illustration:

Monthly expenses à	50000	75000	100000	125000	150000	200000
Cash/Liquid (investment )	150000	225000	300000	375000	450000	600000
Debt ( investment )	1800000	2700000	3600000	4500000	5400000	7200000

If you are already done with this then any fresh investment has to see growing.

Growth of Money -- Now anything after taking into account of Debt comfort level part (cash + income) your further investments should be put for growth and that can come only from Equity and related asset class which is PMS, PE, Real Estate Fund etc . Why Equity? Because in longer time duration return from debt is not so high vis a vis return from equity funds. So put your incremental money for investment in Equity MF.  5% of your total investment should be Gold either in ETC or as hard metal or in ornament form and 5 % in Infrastructure (MF or Bond) with 10 year investment horizon. If you have total portfolio in crores then can also look for PE/PMS for still higher return but investment horizon has to be > 5 years.

Pl remember any fresh investment has to be viewed in terms of total investment portfolio you have an incremental investment should go as per above logic and not based of fear or inducement as per current situation. (e.g. – If someone has total investment of say 50 lakh and all in debt and now has some 5 lakh to invest then in today’s situation he will be tempted to invest for debt again whereas he should go for equity mf as he is already in more than required safer zone and need to put his some money for higher return but with long term perspective)