WHY MUTUAL FUNDS MAKE MORE SENSE THAN HAVING A FIXED DEPOSIT?

Fixed deposits were considered an ideal investment method in the age before digitalisation, as it was safe and gave higher return than savings account. This fact is still true; however, it is not necessary that fixed deposits give the best return on your investment. In fact, the returns of Fixed Deposits are quite low as compared to that of Mutual Funds.

For a 5 years Fixed Deposit, the annual return is around 7%, which may vary from bank to bank. Whereas, the annual returns of 5 years in the top 5 Debt Mutual Funds and Equity Mutual Funds were around 8.5% and 16.7% respectively. But the returns are not merely the only criteria influencing your invest money with savart decision. So, let us have a look at some of the crucial factors that are often overlooked and should be taken into account before you start investing.

1. INFLATION

As the inflation grows, it decreases the purchasing capacity of your money. Let us understand this by an example, a mango that costs Rs 100 today will cost Rs 105 a year later. This implies that in the coming future you will no longer be able to purchase a mango with Rs. 100. It is a profitable investment if the return on your investment can beat the inflation. More the post inflation return, closer you get to your goal. Hence, in case the inflation is at 6 percent and your Fixed Deposit gives you a return of 7 percent, then you post inflation return is less than 1 percent and here we have not even taken tax into consideration.

2. TAXATION

If the investment you are making attracts tax, then your post tax return will be lower and this will affect the amount you get on maturity. The interests earned from Fixed Deposits are taxed on annual basis as per your tax slab and banks also deduct TDS on it. Whereas on the other hand, those Equity Mutual Funds which are held for more than 1 year are excused from taxation and Debt Mutual Funds which are held for more than 3 years are taxed at the rate of 20 percent with indexation benefits (indexation is the Income tax benefit that takes into account inflation from the time you bought the asset to the time you sell it, thus reducing the taxable amount). This makes sure that your money is growing further through the power of compounding.

3. WITHDRAWAL FACILITY

The Fixed Deposits can have a lock in period which may range from 1 to 10 years depending on the type of FD chosen. Any premature withdrawal or closure of a Fixed Deposit is going to attract penalty which could be 0.5-1 percent lower than the rate applicable for the period the Fixed Deposit was held.

But the Mutual Funds can be liquidated or redeemed, either fully or partially, at any given point of time. The money will be sent to your account within a couple of days. Also, you need not give up the interest you earned during that period of time. Although some funds charge an exit load fee if units are redeemed within the predefined period, but it is quite negligible (0.25 percent – 0.5 percent).

4. RISK PROBABILITY

There is this very common misconception that Mutual Funds invest all their money in to the stock market. But actually, around 65 percent of all money in the Mutual Fund sector is put into Debt mutual funds (Debt funds put your money in safe assets like Government or Corporate loans – just like the banks).

Let us see the NIFTY returns all the way from 1995 to 2016, to analyse how Equity Mutual Funds compare against the Fixed Deposits. For your knowledge, the analysis suggested that an SIP of an Equity Fund with a time horizon of 3 to 5 years ensured high returns and that too with low risk. And in case your financial goal went as far as 10 years (it may be for retirement, marriage, or child education, etc.) then you would have earned an average annual return of up to 15.2 percent without exposing yourself to too much risk.

The bottom line is that Mutual Funds that invest in short term debts are almost as secure as Fixed Deposits and Equity Mutual Funds are also safe in the long term. Even if you are a conservative investor who has more faith in the Fixed Deposits, it is always a good thought to diversify your portfolio by making some investment in the Equity Mutual Funds or Debt Mutual Funds. This is going to help you beat the inflation and also give your hard earned money a change to grow and work for you.

Mutual Funds are a great platform to help you achieve your short term goals like saving for a vacation, car, post-graduation, etc. and also long term goals like retirement, child education, home, etc.

Categories: Q5

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