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Should you withdraw FD and invest in mutual funds?

Business Today logo Business Today 10-08-2018 Mudit Kapoor
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Most Indians still invest in a traditional way. Fixed deposit (FD) is their preferred choice but with the changing investing scenario in India, mutual funds are providing better returns. The gap between total investments into FDs in comparison with other investment alternatives such as equities is sharply declining. So, should one move their deposit money into mutual funds to earn higher returns?

In FY17 Indian investors invested Rs 8 lakh crore in stocks compared to Rs 3.4 lakh crore in fixed deposits, according to a report by Karvy private wealth. Total investments by Indians in equities at the end of FY17 stood at Rs 37.6 lakh crore while the total investment in FDs stood at Rs 40.1 lakh crore. This gap is gradually reducing. In FY16 the gap of investment was over Rs 7 lakh crore with Rs 29.6 lakh crore invested in stocks and Rs 36.8 lakh crore in FDs.

Fixed deposits have been the traditional choice of Indians since many generations due to the safety of principal and fixed rate of return. FDs on an average offer 7 per cent returns (0.5 per cent extra for senior citizens). Now the question arises is this return on investment (ROI) enough? Since the inflation hovers between 4 to 5 per cent, the money in FDs end up growing at just 2 per cent annually.

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One thing is certain — investment into FDs does not lead to wealth creation. Mutual funds, on the other hand, have the potential to create wealth in the long term. 

As Indian economy is the fastest growing in the world, investment into equity funds makes much more sense contrary to traditional investor approach. To maximise ROI over long run there is no better way than investing in equity based mutual funds. Equity mutual funds have offered returns upwards of 17 per cent in the last one year, according to data available at AMFI (Association of Mutual Funds in India). CRISIL-AMFI research shows the return on investment derived via various mutual fund schemes across the time horizon of seven years; check the table below. The research is based on returns derived through investment in 30 funds in the large cap category, 32 funds in the small and mid cap category, 14 funds in the balanced category and 86 funds in debt fund category thereby giving an overall performance of the different genres of mutual fund with comparison to ROI from fixed deposit.

Clearly mutual funds dominate returns over fixed deposit in every segment of investment.

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Mutual Fund are generally of three types, equity, debt and balanced mutual funds. Debt Mutual Funds invest major part of their allocation in government bonds, corporate bonds and smaller proportion in equity markets. Equity Mutual Funds invest more than 65% of their assets in equity markets and the rest in government bonds, corporate bonds and other securities. Even debt mutual funds are beating fixed deposits by a small margin along with the benefit of liquidity.

Balanced Mutual Funds are those that invest partially in debt and partially in equity fund. For investors looking for tax advantage ELSS (equity linked savings scheme) is the way forward.

Equity mutual funds invest most of their funds into stocks of companies thus are directly linked to the market performance. When the market is bullish the NAV (net asset value) of the funds rises similarly when the market is bearish then the NAV of the fund declines.

Senior citizens whose finances does not allow them to take such risk or are dependent on the interest earned on FD as their sole income source should opt for fixed deposit over equity mutual funds as fixed deposit guarantees a fixed interest income.

On the contrary, young investors who have the patience to stay invested for longer durations and can bear some degree of risk should choose mutual funds over fixed deposit, and investments should be made through SIP (systematic investment plan) as SIP would average out the ups and downs of the market, and the cost of acquiring fund units over long run providing higher return on investment.

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