Equities, while being regarded by the general public as the riskiest medium, have their own set of benefits associated with their intangible risk. As Socrates correctly said, “diversification is the key to wealth creation,” and one cannot envision a diversified portfolio without an equity instrument.
Many people have questions like “What is wealth creation?” “What is the process of creation of wealth?” “How do you build wealth?” Wealth creation definition is simply the process of investing in different asset classes.
What is equity’s role in wealth creation? Well, in every portfolio, debt is used to balance risk and volatility, while equity is used to increase return. Despite the fact that equities carry greater risk, the incentives are still there. Because volatility is inherent in equity markets, the risk management strategy reduces volatility. From a long-term investment perspective, one should invest frequently and diversify among assets and mutual funds. But why is it important to invest in equity for wealth creation? Let’s discuss it.
Why Should You Think About Investing in Equities?
As an equity investor, you can purchase shares of a company with the hope that their value would increase in the form of capital gains and/or capital dividends. If the value of an equity investment increases, you would get the difference if they sold their shares or if the company’s assets were liquidated and all of its obligations were fulfilled. Equities may improve a portfolio’s asset allocation by diversifying it. Investing in equities can be a building block for your wealth creation strategies.
Characteristics of an Equity Fund For Wealth Creation
With time on your side, equities always result in greater long-term returns. Equities may provide spectacular returns when invested properly and leveraged by the power of compounding. Several studies have indicated that equities, when kept over a lengthy period of time, aren’t so problematic; it’s only on the horizon of 1-3 years that equities exhibit a large variation and a bleak future ahead of the investor.
The growth of an equity instrument is largely reliant on the development of a country’s market index. India has been one of the world’s fastest-growing economies, with a spectacular growth rate of 7%; a similar pattern is repeated in the case of Nifty, the National Stock Exchange‘s index, which has growth rates considerably greater than bank fixed deposit rates.
Reduced Expense Ratio
The frequent buying and selling of shares in an Equity Fund may cause the scheme’s cost ratio to rise. The Securities and Exchange Board of India (SEBI) has set a 2.5 percent maximum ceiling for the cost ratio of equity funds. Furthermore, SEBI may decrease it further. This implies more profits for investors.
Section 80C Tax Exemption
The Equity Linked Savings Scheme, or ELSS, provides tax benefits under Section 80C of the Income Tax Act in exchange for equity exposure. It features a three-year lock-in period and has the potential to generate high profits. You may also invest in an ELSS over time.
Diversification of the Portfolio
By investing a modest amount in an equity fund, you may get exposure to many excellent equity shares. As a result, your equity portfolio is more diversified and has a greater chance of generating good returns.
How Do the Prices of Equity Shares Fluctuate?
Stocks are very volatile instruments, with prices fluctuating on a daily basis. The behavior of stock prices may be explained by a variety of factors. To begin, consider market forces, often known as demand and supply theory. When the number of individuals who want to purchase a stock outnumbers those who want to sell it, the stock price increases.
In contrast, if the number of individuals who want to sell a stock outnumbers those who want to purchase it, the stock price decreases. At this point, it is critical to understand what influences stock demand and supply, which leads investors to like or dislike a company. Throughout the stock trading day, you may have seen headlines flashing on the news networks. Basically, when investors learn of a company’s good news, such as growth/expansion plans or project clearance by the government, the stock price rises.
On the contrary, any bad news, such as a business being sued or a proposal being rejected, causes its stock price to decrease. Even equity analysts’ estimates of a company’s future worth are dependent on profit projections. Ultimately, everything that raises a company’s profits and worth leads its stock price to grow and vice versa. Aside from that, financial measures may be used to determine the company’s intrinsic value.
How to Invest in Equity For Wealth Creation?
Stocks, mutual funds, and shares all have benefits, but before opting to engage in equities and selecting the preferred path, you must consider a few factors such as the company to be chosen, the price at which he or she should invest, and the investable amount, among others. You may then choose one of the three equity investment options listed below.
Investing in Stocks Directly
To invest in shares, you must create a Demat account, and to trade, i.e. buy/sell shares on the exchange using the broker’s platform, you must also open a trading account with the broker. You should also do extensive research on the business in which you want to invest. A bank account, as well as KYC compliance, is required, and this bank account must be connected to your Demat and trading accounts.
Equity Mutual Fund
A mutual fund is an investment vehicle that invests in various investments such as shares, bonds, or a combination of the two. Mutual funds allow you to diversify quickly and simply with a modest commitment. There are many kinds of mutual funds available in the market; some are based on the market capitalization of the businesses they invest in, including big, mid, small, and multi-cap, while others are sectoral or theme-based.
To invest in mutual funds, you must first fulfill the KYC requirements and fill out the fund house’s application form, specifying the preferred scheme. Units are assigned to you after your application is approved. At the conclusion of each business day, the portfolio value of this investment may be calculated by multiplying the units by the NAV.
Portfolio Management Service
Investors who want to invest a larger ticket size, i.e. those who can invest substantially big sums (over Rs 50 lakh) in stock markets, may contact portfolio managers. A portfolio management service (PMS) is a service offered by professional money managers to educated clients that may be customized to suit particular investment goals. The investor and the portfolio manager engage in an agreement that specifies the goals, risks, securities that the latter will invest in, as well as the expenses and portfolio management fees. The beneficial ownership of the portfolio manager’s invested shares stays with the investor in his Demat account, and therefore the investor gets dividends/bonus allotments in his account.
Over a long period of time, the risks in stocks are not as severe as the majority of people believe. The yearly growth rates of some listed equity shares have been exponentially greater than the index growth rate; such equities have proved to be an effective means of wealth creation for their holders. Apart from a significantly high growth rate, equities provide many additional benefits such as dividend entitlement, bonus, rights issue, and liquidity benefit. Long-term capital gains on any equity instrument are also tax-free.
Despite the enormous potential for long-term wealth creation, most individuals lose money in stocks because they buy primarily on information or recommendations obtained from friends and family. Lured by the prospect of short-term profits, they continue to speculate on what will happen next, selecting the incorrect stocks, resulting in huge losses, and ultimately shunning markets.
Wealth creation, like all good things in life, takes its own sweet time. The earlier you start, the better.