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The three most important factors to evaluate investments are safety, liquidity, and returns. In addition to these, there are few more parameters such as convenience, ticket size (or the minimum investment required), taxability of earnings, tax deduction, etc. These factors have been discussed below:
Safety: This begins with the safety of capital invested. However, one could stretch that to also include the degree of surety of income from investment. In order to understand the safety of an investment, it is important to understand the risks involved.
Liquidity: How easily can one liquidate the investment and convert it to cash? The degree of ease is different across different categories, and even within the categories, the same could be different across products.
Sometimes, the nature of the product could be such that selling it is difficult, whereas sometimes there could be some operational features, e.g., a lock-in for a certain period, after which one may be able to liquidate the investment; or a penalty for an early exit.
While such a penalty does not hamper liquidity, it only lowers the investment returns. Another aspect that one may also want to look at is divisibility. Is it possible to liquidate part of the investment or is it necessary to sell the whole thing?
Returns: As seen earlier in the definition of investments, the major purpose is to get some returns from investment. Such returns may be in the form of regular (or periodic) income, also known as current income; and capital appreciation, or capital gains.
The current income is receivable periodically, without having to sell the investment, whereas the capital gains can be realized only when one sells the investment.
The exit charges or penalty would bring down the returns, as seen earlier. Hence, whenever there are any such charges for withdrawals (including early withdrawals), the same must be considered as a trade-off between liquidity and returns.
Convenience: Any investment must be evaluated in terms of convenience with respect to investing, taking the money out–fully or partially, as well as the investor’s ability to conveniently check the value of the investment, as well as to receive the income.
Ticket size: What is the minimum amount required for investment? There are some avenues where an investor can start investing amounts as small as Rs. 50 or Rs. 100, whereas some require more than Rs. 1 lakh, and sometimes more than Rs. 1 crore. This becomes an important factor while taking a decision about the selection of investment options. At the same time, this must not be the only factor.
Some investors (though a very small number) have started considering certain investments (requiring large amounts), only because they could afford the same, without checking whether they needed it, or if that was appropriate for their situation and goals.
Taxability of income: What one retains after taxes is what matters, and hence, taxation of the earnings is another important factor that one must consider. While looking at the taxability of income, it is critical to evaluate various other factors, too, and not look at taxation in isolation.
For example, some products may offer lower tax on investment returns, but the safety also may be low. At the same time, there could be some products that may offer low tax on investment returns, only if the investor stays invested for a certain term, or till the maturity of the product. In other words, if the investor sells the investment before maturity (or a certain minimum period), the investment returns may be taxable.
Tax deduction: A related matter is the tax deduction that may be available in case of certain products. Such a deduction effectively increases the return on investment, since the same is calculated after factoring the net amount invested.
However, where a deduction is available, the product may have a lock-in period of certain years. Once again, this is a trade-off between liquidity and tax deduction.
The above discussion offers a good framework for the evaluation of investment products. However, as mentioned earlier, no factor should be seen in isolation. One also must consider the investor’s situation while evaluating the avenues.
Disclaimer:
The information set out above is included for general information purposes only and is not exhaustive and does not constitute legal or tax advice. All complaints regarding Mutual Fund can be directed towards visit www.scores.gov.in (SEBI SCORES portal). Readers are requested to make informed investment decisions and consult Chaitanya Financial Consultants – 9000628943 / mfd.mmr@gmail.com to determine the financial implications with respect to investing in Mutual Funds.
Mutual Fund investments are subject to market risks, read all scheme related documents carefully.
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