Skip to main content

All Investments have risks - even Bank FDs

Download Tax Saving Mutual Fund Application Forms

Invest In Tax Saving Mutual Funds Online

Buy Gold Mutual Funds

Leave a missed Call on

94 8300 8300

 

All Investments have risks - even Bank FDs





There is no asset class that can be termed risk-free. To take charge of your financial life, you can, at best, cut down on your risks by diversifying your investments

 

A frequently asked question is: what is the best investment choice for the ordinary investor? There is palpable disappointment when the answer is: there is no such choice. Everything is risky, from taking the road to choosing a partner. But we seem somewhat adamant when it comes to investing. We love to blame. We like to find conspiracy theories. We think someone has to take responsibility. Or, worse, we feel entitled to the best.

It is time to drop all this for good. We are responsible for our financial wellbeing. Risk, return and diversification are fundamental ideas that each investor has to learn, without protesting about entitlements.

There is nothing like a risk-free asset. But the good news is that financial structures can be created to come close to that ideal. Consider the much coveted bank deposit. Many of us trust the bank; there is little reason why we should not. The structure of a bank has been honed over the years to protect depositors. This despite the fact that the bank uses the depositors' money to make risky loans.

How is this possible? A bank cannot simply take deposits and make loans. It has to back its promise to its depositors with a solid balance sheet structure. There are four primary ingredients that make the bank deposit a nice and robust investment product. First, a bank cannot fund all its loans with deposits. It has to have its own capital. For example, if a bank wants to have a loan book of `100, it can raise `90 as deposits but, to do so, it must first raise `10 as equity capital. The equity capital has to be adequate to cover the risks of the loans.

What does this mean?

If `10 is equity capital and `100 has been lent out, the bank has allowed for a risk of `10 on its loans. Or, even if 10% of its loans go bad, it can still repay `90 to its depositors. When we speak of capital adequacy norms, we refer to the regulatory requirement, which weighs the loans based on each category's risk, and asks the bank to first raise equity capital, to provide the cushion, so that depositors are protected. This is why, when banks' non performing assets (NPAs) go up, we now talk of banks' need to be `capitalised'.

What are the other three ingredients of the bank's structure?

First, a part of the deposits is kept as cash with the central bank, to meet exigencies.

Second, a part of the assets have to be statutorily kept in safer government securities, only the rest can be lent as risky loan.

Third, if a bank finds that its loans have gone bad, it has to provide for them from its profits. All these ingredients make the bank's balance sheet a dependable structure for investors who deposit money, earn the stated interest, and access it when they like.

Why is the bank deposit still not risk free?

Though it is not very common, a bank can still fail. Hoping to earn a high return, in its quest to maximise profits, a bank may give very risky loans. The bank may be reckless in its lending practices, making loans to poor quality borrowers. The primary risk of all these events impacts the equity investor. In our example, if the loan book falls in value from `100 to `92, the deposit holder will still get back `90. But the equity investors' value has eroded from `10 to `2. If the bank hides its bad loans, or fails to provide, or does not get more equity capital to support the risky assets, it could default on its deposits too.

This is why equity is riskier than debt. But not all promises made by a borrower to a lender are good. It all depends on the quality of the assets and the structure of the balance sheet. If one bank has low NPAs and good equity value, it is qualitatively better than another bank with high NPAs and low and falling equity values. Many who assume that nothing can go wrong with PSU banks are not guided by the principles of finance, but by the blind faith that the government will not allow the banks to fail.

When a bank is stressed by bad loans, it needs equity capital--to make new loans and to price and service its depositors competitively. A bank with a weak balance sheet will have to pay more for deposits. It has to make riskier loans to make profits. Therefore, a weak bank is not a great place to be in. If the government has to step in, it has to find money to be an equity investor in the weak bank, or fund other equity investors. Both tasks are tough.

What about other investments? In each case, the structure is what matters. In a company deposit, the assets of the company matters. If it is a profitable business, and if it is adequately capitalised, it might be a good investment option. In a PSU, or any other company bond, the same principle works. In any debt investment, investors should take the time to see what is at work to protect their money. As a rule, lending to a business whose equity share prices are falling, is a bad idea. The risk of the assets is what the equity prices reflect.

How about equity? An equity investor is directly exposed to the risk of the assets. The only protection to the equity investor is diversification. All assets don't go bad at the same time. If an equity investor's shares are spread across different businesses, the risk of failure will be lower. For example, an investor holding PSU bank stocks and private banking stocks, might be better off than one holding only PSU bank stocks. An investor holding banking, pharma and IT stocks might fare even better. But the risk cannot be eliminated completely.

So what does taking charge mean? Three key things. First, there is no guarantee in modern finance. A promise about return is as good as the balance sheet on the basis of which it is made. Second, diversification is key to reducing risks arising from promises gone weak or bad. Third, there is no point trying to forecast the future. Even the best loans can fail, and great companies can fall. To invest means accepting that returns will always come with risks, and that diversification is more sensible than mindless speculation about the future.


For further information contact Prajna Capital on 94 8300 8300 by leaving a missed call

Leave a missed Call on 94 8300 8300

Leave your comment with mail ID and we will answer them

OR

You can write back to us at

PrajnaCapital [at] Gmail [dot] Com

---------------------------------------------

Invest Mutual Funds Online

Invest Any Mutual Fund Online

Download Mutual Fund Application Forms from all AMCs

Download Mutual Any Fund Application Forms

---------------------------------------------

Best Performing Mutual Funds

    1. Largecap Funds Invest Online
      1. DSP BlackRock Top 100 Fund
      2. ICICI Prudential Focused Blue Chip Fund
      3. Franklin India Bluechip
      4. ICICI Prudential Top 100 Fund

B. Large and Midcap Funds Invest Online

      1. ICICI Prudential Dynamic Plan
      2. HDFC Top 200 Fund
      3. UTI Dividend Yield Fund
      4. Birla Sun Life Front Line Equity Fund
      5. Franklin India Prima

C. Mid and SmallCap Funds Invest Online

      1. Reliance Equity Opportunities Fund
      2. DSP BlackRock Small & Midcap Fund
      3. Sundaram Select Midcap
      4. IDFC Premier Equity Fund
      5. Birla Sun Life Dividend Yield Plus
      6. SBI Emerging Businesses Fund
      7. HDFC Mid-Cap Opportunities Fund
      8. ICICI Prudential Discovery Fund

D. Small and MicroCap Funds Invest Online

      1. DSP BlackRock MicroCap Fund
      2. Franklin India Smaller Companies

E. Sector Funds Invest Online

      1. Reliance Banking Fund
      2. Reliance Banking Fund
      3. ICICI Prudential Banking and Financial Services Fund

F. Tax Saver Mutual Funds Invest Online

1. ICICI Prudential Tax Plan

2. HDFC Taxsaver

      1. DSP BlackRock Tax Saver Fund
      2. Reliance Tax Saver (ELSS) Fund

G. Gold Mutual Funds Invest Online

      1. Relaince Gold Savings Fund
      2. ICICI Prudential Regular Gold Savings Fund
      3. HDFC Gold Fund
      4. Birla Sun Life Gold

H. International funds Invest Online

1. Birla Sun Life International Equity Plan A

2. DSP BlackRock US Flexible Equity

3. FT India Feeder Franklin US Opportunities

4. ICICI Prudential US Bluechip Equity

5. Motilal Oswal MOSt Shares NASDAQ-100 ETF

Popular posts from this blog

ICICI Prudential Dynamic Plan Invest Online

Download Tax Saving Mutual Fund Application Forms Invest In Tax Saving Mutual Funds Online Buy Gold Mutual Funds Leave a missed Call on 94 8300 8300   ICICI Prudential Dynamic Plan             Invest Online This fund does remarkably well during falling markets, but fails to show the same prowess during a rising market. The fund sticks to its mandate to adapt to the dynamic nature of the market by shuttling between debt and equity. It takes aggressive asset calls in equity when the market surges by investing in quality mid-cap stocks. At the same time, it adopts a defensive strategy by investing in debt and cash when markets get overvalued, making it a good long-term choice.     For further information contact Prajna Capital on 94 8300 8300 by leaving a missed call     Leave a missed Call on 94 8300 8300   Leave your comment with mail ID and we will ...

Lump Sum or SIP?

Invest Mutual Fund Online     You have a lump sum in hand and you wish to invest in equity funds. However, you have heard a lot of talk about investing in equity funds through Systematic Investment Plans (SIPs) because they help average costs, ensure you do not ill-time the market, and help you invest in small sums, besides giving you many other advantages. So, should you invest the money you have in hand in one go, or let it remain in your bank account and then do an SIP? There is no harm in investing a lump sum amount. For all you know, compounding, over the long term, could work better with lump sum. However, make sure you fulfill all of these three criteria if you want to invest in one go. Else, SIP is the way to go. #1: You invest for the long term According to past data, ideally, if you have a time frame of 12 years or more, you can consider lump sum investing (provided you satisfy the other two conditions that follow). So, what is the sanctity behind 12 years? Is it because only...

Feeder funds are the cheapest way to invest in gold

Buy Gold Mutual Funds Invest Mutual Funds Online Download Tax Saving Mutual Fund Application Forms Call 0 94 8300 8300 (India)   There are four ways to put your money in gold — buying physical gold/jewellery , putting money in gold exchange-traded funds ( ETFs ), investing in a gold savings fund and going for the National Spot Exchange's e-gold. Now, some gold ETFs and e-gold even allow taking physical delivery of gold at the end of investment tenure. That might sound good if you wish to possess physical gold. But, given the firm price of gold today (almost ~31,000 per 10g), it is important that gold is bought through acost-effective avenue. Reason: Investing comes at a price. Add to that, India's gold buying is expected to decline in 2012 and 2013, according to the latest World Gold Council ( WGC )report. WGC Director Vipin Sharma feels gold imports may drop to 800 tonnes from 967 tonnes last year. And the mix between the jeweller...

Tax Returns: Myths and facts of filing your Tax Returns

THE fiscal year has ended and many choose to make tax-filling. Despite this being a regular, annual ritual, several tax payers have some misconceptions, some of which are listed below: Misconception No. 1 Filing tax returns is a complex and cumbersome process. I need a Chartered Accountant to help me file my tax returns. Contrary to popular belief, preparing and filing tax returns is actually quite simple. If you have a digital signature you can accomplish the entire process sitting at home on your computer thanks to the e-filing facility on www.incometaxindiaefiling.gov.in. Alternatively, you can submit the returns online, print a one-page receipt, sign it and drop it off at the income tax office within fifteen days of submitting the returns. No documents are required to be submitted with the receipt. However, if you want help, there are several third party service providers who offer tax preparation and filing services for a fee as low as Rs 200. Misconception No. 2 The interest I p...

Stock Market Concepts: Derivatives and taxation

DERIVATIVES refer to an instrument, which derives its value from the value of something else — that is, an underlying asset. In India, the derivatives space has traditionally been the playground for large institutional investors who use it for hedging or for speculative activities. However, with time, we have seen a steep augmentation in the per capita income of an average Indian. Consequently, the appetite for investment in alternative instruments has transcended into the need to explore untested territories, and one of the most lucrative of all the available options, is the derivatives. Taxation Of Derivatives: Let's have a sharp overview of how taxability impacts the dealings in futures and options: Futures: Since, there is no transfer or delivery of the underlying asset in case of futures, the income or loss from it cannot be taxed under the head "capital gains". Therefore, depending upon the fact whether the assessee is a trader or an investor, the head of income...
Related Posts Plugin for WordPress, Blogger...
Invest in Tax Saving Mutual Funds Download Any Applications
Transact Mutual Funds Online Invest Online
Buy Gold Mutual Funds Invest Now