Here’s How To Build Tax-Free Wealth With Equity MF

By Adhil Shetty | December 6, 2017

Not many prefer equity Mutual Funds when it comes to investments as it is considered to be fraught with risks. However, it does assure good returns over investments like PPF, FD etc in the long run.

Here Is How To Build Tax-Free Wealth With Equity MF

You would have heard old people saying ‘never invest in equities or you’ll lose all your money’. If you also believe that equity investment is not made for you, then it’s time now to change your perception and explore the benefits of investing in them. Today, if you don’t invest in equities, then you may miss out on the best return that you deserve on your hard-earned money!

Why Do People Fear Investing In Equities?

Many people who don’t invest in equities think that it is full of risk with very low chances of positive return. There are others who find it very complex to understand and stay away from it. Risk-averse people look for a fixed and assured return. They even compromise with a low return which sometimes dips below the prevailing inflation rate.

Risk-averse investors fear that they will lose the capital if they invest the money in equity markets, which they perceive to be very volatile and uncertain. Another reason for the fear from equity investment includes less liquidity, short term planning not possible, no return guarantee etc.

Risk Is Key To High Returns In The Long Term

Risk and return have an important connection. Higher risk may give you higher returns when you invest in equities. At the same time, chances of loss is also high, but there are ways to keep the losses at a low level.

In the long term, the risk level averages and you can earn a high return if you invest in regular intervals. If you look at people who invested in the late 80s and beginning of the 90s in Mutual Funds, their corpus has grown by more than 50 or 60 times in 30 years.

Despite the risk and volatility in the equity market, you won’t get such high returns in any other avenues like you would get by investing in an equity scheme.

Low Returns Are Also A Risk

If you are a risk-averse investor who likes to stick to single-digit returns, then you need to rethink your strategy. If the return on your investment is below the inflation rate, then your capital value will erode in the long term. It is therefore very important to keep ROI as high as possible in the long term.

If you analyse the past 20 to 30 year returns of equity-oriented Mutual Funds, then you’ll find out there are several schemes which have generated returns of more than 12% p.a. which is much higher than PPF and other tax-saving instruments.

How Equity MF SIP Helps Mitigate Risks?

Equity Mutual Fund SIP allows to consistently stay with the equity market movement and therefore in the long term you can effectively average out the volatility of the stock market, and thus reduce the risk. SIP can give a better result when the market is volatile in comparison to a stable market movement.

Let’s understand this with the help of an example, as shown in the table below:

SIP benefits in volatile equity market
Year Average NAV in one year SIP Amount No. of Units Purchased
Year 1 50 12000 240
Year 2 40 12000 300
Year 3 50 12000 240
Year 4 60 12000 200
Year 5 70 12000 171.4285714
Total 60000 1151.428571
NAV at the end of year 5= 70
Total Unit purchased in 5 years= 1151.42
Total Investment= Rs 60000
Value of Investment at the end of 5 years= 1151.42*70= Rs 80600 i.e. more than 11% Pa ROI

As shown in the table, despite fall in the NAV rate and flat NAV in some of the years, eventually in the long-term SIP can give a high return while cutting down the volatility risk.

FD, small savings and equity investment return comparison

ROI comparison
Bank FD rate (Approx. average rate in 5 years) * 7.50%
PPF Interest (Approx. average rate in 5 years) 8.40%
Small and mid-cap mutual fund** 15% to 30%
ELSS** 12% to 19.8%
Large Cap Mutual Fund** 10% to 20%
Data taken from news reports, mutual fund service provider website etc
*Taken from SBI’s last 5 years FD rate for 5 years tenure

**Mutual fund data shows approx. annualized return range (for last 5 years)

 

And Finally

In the last 5 years, Mutual Funds have outperformed fixed return investments like PPF, FD etc. by a large margin. In a long term of 20 years or 30 years investment, even 1% deviation in the overall return can make a big difference in the final corpus. So, if you invest in equities, then you can get much higher returns than FD or other small saving schemes.

To build a big tax-free corpus (LTCG on equity investment are tax-free), you should start SIP in equity-oriented Mutual Funds and invest for a long term.

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Adhil Shetty

About Adhil Shetty

Adhil Shetty is the Founder and serves as the Chief Executive Officer of BankBazaar.com. Adhil has a Master’s degree in International Relations with a specialization in International Finance and Business from Columbia University in the City of New York, and a Bachelor’s degree in Engineering from the College of Engineering Guindy, Anna University. Adhil is an expert in Personal Finance (Car loan/Home loan and personal loan) and he majorly consults on investment and spends rationalization for the Indian loan borrowers. His guidance is number based with real time interest rate calculations and hence useful for consumer’s real time query.

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