Whether one should invest in Mutual Funds or Direct Stocks
is a very common dilemma faced by investors.
There’s no one right answer for this though, with either
mode you would eventually invest in the equity market.
The responsibility when you’re investing in direct stocks is
completely yours whereas when you’re investing in mutual funds, the
responsibility is divided among different professional experts.
Direct Equity
Investing in direct equity means purchasing shares of a
publically listed company, in simple language it means becoming an owner of the
company to the tune of your share.
Being an owner brings along with it certain rights like
being able to attend Annual General Meetings, being able to vote, etc.
The two primary sources of gain as a shareholder are via:
- Sale of Shares
- Dividend Earnings
Before purchasing the shares of any company, as an investor
you need to go through various points like:
- Management of the company
- Financials of the company
- Sector the company is currently in and
- Various other external factors.
The risk is higher as compared to mutual funds but so are
the returns, the risk profile of an investor needs to be on the higher side to venture
into direct equity investing.
Needless to say, only those able to afford to stay invested for
a longer time period say 10 years or more should consider it.
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Mutual Funds
A mutual fund is an entity that pools money from various
investors and then invests this money into various asset classes such as
stocks, bonds, cash, short term debt, etc.
They are operated by professional fund managers and in
compliance with various regulations.
The two primary sources of gain as a mutual fund holder are
via:
- Sale of mutual fund holdings
- Dividend Earnings
You can only lay claim to dividend in mutual funds if you go
for ‘Income Distribution cum Capital Withdrawal’ option and not when you go for
growth option.
Differential points
between Direct Equity Investing & Mutual Funds
Demat Account
For investing in direct equity, you need to have a demat
account.
This is not a necessity for mutual funds.
For investing in mutual funds, all you need to have is a
bank account and have your KYC verified.
Risk & Returns
In direct equity investing, risks are on the higher side and
so are the returns.
In equity mutual funds relatively speaking, risks are on the
lower side and so are the returns.
In a equity mutual fund scheme even if one of the stocks
gives negative return, it can be balanced out by other stocks since mutual fund
portfolios are diversified.
There are also limits with regards to maximum exposure in
one particular stock in a particular equity mutual fund scheme.
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Tax Savings Benefit
You can save taxes by investing up to Rs 1,50,000 in elss
(tax saving) mutual fund schemes.
There is no such option with direct equity investing.
Personal bias
With direct equity investing, there’s always the fear of
personal bias setting in.
You may feel you have a very good understanding of a
particular company or its sector for whatever reason.
This cannot be the case with equity mutual funds since the
decision to whether invest or not in a particular company rests solely with the
fund manager and not you.
Of course, you could always argue the fund manager can also
have her own bias but since a mutual fund portfolio is fairly well diversified
the ill effects of personal bias is on the lower side.
Low Entry
Imagine you want to purchase a share, the price of which is Rs 50,000.
You have only Rs 5,000 to spend though.
In such a case it will not be possible for you to purchase that
particular share.
With mutual funds though the minimum entry point is on the
lower side, you can invest in schemes with as little as 1,000 to 5,000 rupees.
You can indirectly own the share you could not earlier due
to its high price if the same share is held by a particular mutual fund scheme.
Mutual funds are truly retail.
Expertise
With direct equity, you are completely responsible for your
choices.
In an equity mutual fund you get the expertise of the fund
manager/co fund managers, investment team, advisor, etc.
This checks and balances method is a healthy filtration
process.
With direct equity investing, there’s a higher chances of
personal bias setting in.
Control
With direct equity you have complete control over which
shares to buy and sell and when.
That is not the case with equity mutual funds.
With equity mutual funds, the decision rests solely with the
fund manager.
So the fund managers are bound by regulations for all
categories and they have to abide by them, they can still pick and choose which
shares to buy and sell and when as long as they are within the guidelines.
Investable Amount
With an equity mutual fund, you can invest smaller amounts
via SIP on a monthly basis.
This is not possible with direct equity investing.
This is because often the amount you wish to invest can fall
below the share price.
With an equity mutual fund though you can still purchase
that share indirectly.
Tracking the
portfolio
Direct equity investing is not merely about investing in the
‘best stocks’ and building wealth.
You need to keep a track of your portfolio periodically.
This does not mean you track your portfolio daily but you do need
to be updated with regards to any changes such as:
- Change in management
- Consistently poor numbers
- Any new government regulation affecting the core of operations of the business etc.
This is not to say you do not need to track your mutual fund
portfolio but with a mutual fund portfolio, the time and effort required is on
the lower side.
Be it direct equity investing or equity mutual funds, for
both you need a longer time horizon of five years or more ideally.
Equity investing, be it direct or via mutual funds is a
highly specialized job which has unfortunately been reduced to taking the ‘best bet’
which is extremely dangerous for your financial health.
Both are constantly undergoing changes and yet both do not
require immediate reaction to those constant changes, the reality of retail
investors is vastly different though.
Direct equity investing requires constant tracking of
portfolio, being able to not be reactive and having a risk profile that has
been concluded by being as least bias as possible.
For most retail investors, equity mutual funds is the way to
go for peace of mind and long term wealth creation.
For portfolio enquiries, email us with your doubts at info@themutualfundguide.com
