Is investing in Stocks and Mutual Funds safe?

There are so many ads nowadays in different videos and social media stating “Mutual Funds sahi hai” that it’s obvious to think for a common man to give it a try. Afterall there are so many people claiming to become rich by investing on them with some claiming to give a profit of even 50%!

Is everything so fancy in the Stock world?

 

What is Stock or Share all about?

To understand this, let’s take an example. Suppose a person “A” owns a company. Now as the company is getting bigger each year, he needs to invest capital to grow his business. But since the company now is so big that “A” does not have that capital to invest more, so what he does is, he divides his company into some number of divisions, say 1000. Now if his company’s value today is 100 crores, then each of those units i.e., Share price would be 10 lacs (100 cr divided by 1000). Now he decides that he would keep 50% of those Shares to himself and rest he would make available for the public to buy them. That means, he would get 50 crores from the market from the people who bought those Shares.

Now although there is a difference between the terms----Stock and Share, we make the same meaning out of it. A Share is the smallest unit of the Share Capital of the company which is selling it while a Stock is the collection of the Shares that an individual is holding, for example an individual may hold 10% of the Stock of a company, and this may include a certain number of Shares entitling him/her to be part of some decision making and sharing of dividends (profits). In plain terms, Stock is a collection of Shares.

What is the relation between Mutual Funds and the Stock Market?

Mutual Fund is a relatively newer concept in the world of Stocks. There are few companies who formed these Fund Houses, they collect money from a large number of individuals and invest that money to buy Shares of different Companies in large number. Of course they charge some fees in lieu of the services provided by them which may range from 0.1%-3% depending on the type of Mutual Funds and the facility they take.

So if an individual can buy Share all by themselves, why go for Mutual Funds and give extra money?

The answer lies in the basic difference of these two-----“How Mutual Funds work” and “How Stock Markets works”.

1.  In order to buy Shares from the market, the person needs to have a Demat Account and a Trading Account, only then one can trade Stocks. Mutual Funds on the other hand, does not require these processed, one just needs to have a Pan Card and complete KYC (Know Your Customer), even if one did not do their KYC, he can invest upto a maximum of Rs. 50,000.
2. To invest into the Share Market, one needs to analyze the company how it is performing. Mutual Funds on the other hand, does not require so much analysis. The individual just needs to check how the Mutual Fund has been performing over the past few years and then can invest if the history is satisfactory. The Fund Manager of that Mutual Fund takes the decision for you on which Companies to invest in order to generate the maximum profits.
3. Since Mutual Funds invest in a large number of Companies, if a Company or two does not perform well and makes a loss, one can still make a good profit from the other companies that the Fund has invested in. Stock Market on the other hand is more intense since an individual suffers from a heavy loss if a company makes losses as they invest in maximum 8-10 companies.
4. Along with the above points, current market of Mutual Funds offers a lot of flexibility with SIP (Systematic Investment Plan), ELSS (Tax Saving Funds) and Multicap Funds (where the money is invested in small, medium and large companies) which common people can take advantage of according to their plan of investment.

Conclusion:

So does that mean that “Mutual Funds are risk free”?

Well, do you hear/see what the ending of the advertisements say, something like “Mutual Funds are subject to market risk, please read the offer documents carefully before investing…” (the person in the ad speaks so fast, it’s hard to get it).

Although Mutual Funds invests in a variety of companies, it still invests in the Stock Market, right? So if the whole market crashes Mutual Funds in no way can survive it. For example during the year 2008-2009 when recession hit the whole world or the current Corona Virus situation, both Mutual Funds and Stock Market are affected badly and people have been undergoing huge losses. So the key is to monitor the situation and stay the least affected. Although Mutual Funds enable you to not require any market analysis, an understanding of the global market will help one to get out of an impending crash.

It’s also suggested that if someone requires money in the upcoming year or two get the money from the Stock Market or Mutual Fund and invest in safe options like Banks or Post Office where you will remain unaffected from situation. In no way the Stock Market can replace the safety of the conventional options like FD, PPF, NSC and other such tools. The best way is to segregate your investments in a planned way so that you always have your backup that will get your money in emergencies.

What's your take on the issue, please comment it out.