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The best of both worlds

Choosing between direct equity investing and buying equity mutual funds can get tricky. Here's what you should know

Rashmi Roddam 

After months of staying on the sidelines, retail investors are coming back to the market. Equity mutual funds, which were seeing outflows in the last two years, saw a turnaround in December 2013 as investors once again started pouring money into these products. Investors pumped in more than Rs 1,000 crore, the highest in 27 months, as against more than Rs 8,000 crore that was redeemed from equity funds in 2013.

Retail investors seem to be choosing investing in equities through the mutual fund route once again rather than through direct market participation. Last year, the Sensex was up eight per cent, but a bulk of that move has come from only a handful of stocks. Clearly, the stock market was polarised and investors who didn't have these few stocks actually landed up losing money, as much of the broader stocks did not participate in the rally.

When MFs work
This brings us to the big question, should you invest directly in the market or go via mutual funds (MFs)? Both options may look fine for you. If you have back-to-back meetings with clients and do not have the time to go to the bank, what would you do? Ask your expert to take care of it?

Direct stocks
  • Offer complete control on stock selection
  • Can buy and sell at any point during trading hours
  • Can enter and exit from a single stock
  • Demat account is a must
  • No exit load
Mutual funds
  • No control over stock selection
  • Can buy or sell only at end of trading day after NAV computation
  • Cannot enter or exit single stock
  • Demat account is not a must
  • Exit load can be up to 2 per cent

This is what would happen typically in an MF investment. Your investment in an MF scheme will be handled by experts, fund managers who will create a portfolio and make on your behalf. In MFs, a fund manager makes investment for various people who have invested in a particular scheme and investment is done collectively. The returns from MFs are entirely dependent on the portfolio selected by the fund manager. Investment in MFs depends on the net asset value of the fund, calculated after taking into consideration expenses and costs incurred by the scheme. An exit from equity funds within one year of investment attracts an exit load of up to 2 per cent. After one year, returns on MF are tax free and attract no exit load.

MF are liquid as one would receive the money within a week of redemption. Though they can be held in de-materialised form, there are many administrative hassles in redeeming a fund, transferring a fund, holding multiple folios, etc. MF investment is ideal for those who are ready to hold for at least a year so that they do not incur extra costs.

There are two options an investor can choose - dividends, paid out to an investor, and growth, where dividends are re-invested. Under Sec 80C, there is a tax benefit of up to one lakh rupees when one invests in equity-linked savings schemes, which have a lock-in of three years.

When direct investment works
When investing directly in stocks you are at leisure to select stocks and create your own portfolio. Shuffling of a portfolio turns easier by investing directly in stocks. If a particular stock is not doing well, one can sell it easily and purchase better-performing stocks immediately. Also, when a particular stock has reached a target, you are at liberty to book profits and reinvest them immediately. As a shareholder, you will be entitled to attend annual meetings and be a part of a company's decisions. The cost of entry to, and exit from, stocks is the brokerage that needs to be paid to a stockbroker.

Research, time and guidance are the key factors while investing directly in stocks. Technical and fundamental analysis provides clarity to investors in making One should have enough time for analysis and to track investments daily in order to make decent money in stocks.

Another option when investing directly is to go with expert opinion and invest in stocks accordingly. Stocks can be held in demat form and are highly liquid. Technical analysis will help traders purchase and sell stocks daily, not possible in a mutual-fund investment. On redemption, a shareholder will receive money in two working days. Shareholders will receive dividends along with profits on shares. Direct stock investment can be either for short, medium or long-term targets. Speculative trading is possible through derivatives, which are high-return, high-risk. Tax benefits under 80CCG can be claimed on shares, which have a fixed lock-in period of up to one year.

A case for both
In both direct stock investment and MFs, one can choose a portfolio based on requirements. Based on analysis or expert advice, one can create a portfolio of pharma stocks or technology stocks, or a diversified portfolio of banking, technology and pharma stocks. You may choose a stock based on its market cap - large, mid or small cap, based on indices, etc. Similarly, mutual funds also have sector funds where the portfolio would be based on a particular sector. They are also based on large, mid, small cap or diversified funds. Monthly and lumpsum investments are possible in both kinds of investment.

It is good to invest in both stocks directly and through MFs. Investments can be made in MFs for three years. For a short-term target of up to two years, stocks should be chosen. It is advisable to book profit at regular intervals in both MFs and stocks and re-invest in order to enjoy compounding returns on investments.

The author is Director, WealthRays Group

First Published: Sat, January 25 2014. 21:40 IST