Here is a cost benefit analysis of investing in stocks directly and through mutual funds.
There would be widely varying reactions when we bring in the subject of equity. Some swear by it & can’t even begin to think of an alternative to that. Some are totally averse to equity & consider investing in equity – gambling.
There are a whole lot of them in the middle who do not care. These people will invest in what is the flavor of the season & keep switching from one instrument to the other, based on what is doing well or what has caught the fancy of the market at that point. Only a small portion of the investors really understand investment philosophy, diversification needs, risk–reward equation, tenure, liquidity, taxation etc. These are the investors who are either savvy themselves or have advisors who are taking care of their investments on a professional basis.
Let us come to a point that seems to hold people in a thrall – Investing directly in equity is much better than investing through mutual funds. Let’s examine this premise.
Equity investments are done directly in company shares. Equity investments are usually done by the investor himself/ herself. Most times the inputs come from their broker. They also take inputs from TV shows, papers & magazines, friends & colleagues and sundry others. Very few have subscribed to professional services or have someone knowledgeable to advice them. Mostly such investments are based on whether the stock in question is going to do well in the next 1/3/6/12 months. Many such investments are churned on a regular basis, to “realize the upsides”. Such investments are random, the logic for investment is questionable, the horizon short term & there is no diversification of any sort. There is no overarching plan with such investments – the only focus is to maximize their money – nothing else.
Sometimes investors also invest based on marquee names. For instance, they may buy stocks of Infosys, ICICI Bank, Sun Pharma etc. - here buying bluechips is an investment strategy. Such investors may keep buying such shares over time. Again, there is no strategy involved at all. One just keeps accumulating shares whenever they can and hope that they would multiply several times and make them wealthy.
Equity investment is not as easy as people tend to think – especially if they want to create long-term wealth. There are successful individual investors for sure in equity – but that number is small. Also, even out of these successful investors only some of them achieved their success through a properly thought out strategy. Others have been just lucky to have invested in some good stocks which have compensated for other bad choices & lack of a coherent investment strategy.
Mutual funds are investment vehicles tailored at those who do not want to invest their money themselves and want to take the help of a professional fund manager. The money collected for a particular scheme from many investors are invested as per the mandate of the scheme.
In this case, the investment calls are taken by the fund manager & his team. The investor himself/ herself need not get involved in deciding the underlying investments. The investors just need to clearly understand the mandate of the scheme before putting in the money – that’s all.
It is the duty of the fund manager & his team to regularly monitor the investments made – in fact, that is the only job they have. The fund manager has the knowledge , skills & experience to sift out the companies from the universe of stocks, analyse them, understand the sectoral fundamentals, tie it up with the country’s economy & the potential for the company / sector, look at external factors including global growth & geopolitical situation. Their team also has access to privileged information much more & earlier than a regular investor; they have access to the management & do have discussions directly with the top brass, to get a perspective of where the company is headed; apart from these, they have access to real time information feeds & software tools.
Since there is also a mandate for the scheme they have to stick to, they would follow a well thought out process through which they will select the candidates. Usually, the portfolios of MF schemes are well diversified across sectors and companies, which an individual investor would find hard put to achieve. Even for a small investment an investor is getting access to the same level of diversification as the scheme!
All these ensure that the quality of the calls taken is good and the portfolio offers a reasonably good return. The risk inherent in the portfolio is lower due to careful selection & diversification. Since the fund manager is a professional, emotions do not come in the way of the investment calls (like it normally does for investors, who get wedded to certain stocks).
Hence, the MF investor need not have to worry about their investments. They just need to check their MF portfolio maybe on a half yearly or annual basis to see if the funds are still being managed well. If there is any need for change, they can cash out & reinvest in an appropriate fund. Liquidity is assured in a MF, unlike in the case of equity – which is again a positive.
There is a cost attached to MF investing; but that would be well worth it, especially if the investor does not have the knowledge, skills & the time to do it himself. Also, investors tend to choose just a few bluechips, again and again. These would anyway be a part of many MF portfolios & there is no need to invest directly, especially where bluechips are involved. As far as the smaller company investments are concerned, the fund managers would be in a much better position to judge & take calls. Most investors burn their fingers especially with smaller stocks – they end up with penny stocks, which prove to be a lag on their investments.
For most people, MF investments are appropriate and would help them get decent returns. MFs do make it easy for investors to participate in equity markets. Only for the few who have the time, knowledge, discipline & skills in analysis would direct equity investments work. They however need to keep tabs on the companies, markets, sectors, economy & global trends & factors. That’s a tall order for most. Direct equity is for a select few. All the rest would be better served by MFs.
Author is founder at ladder7.co.inNot sure which mutual funds to buy? Download moneycontrol transact app to get personalised investment recommendations.