You should also know the risks and rewards associated with every investment class to decide if a single asset class or a mix of asset classes would help you meet your requirement.
The motive of investing in different asset classes is different and they should be selected according to your financial goals and objectives. Apart from the features, you should also know the risks and rewards associated with every investment class to decide if a single asset class or a mix of asset classes would help you meet your requirement.
Investments in equities or stocks of companies are done through stock markets and hence such investments are subject to market risks. You may enter into equity investments directly by investing in shares of different companies or through diversified portfolios of mutual funds (MFs).
Pros: Staying invested in equities for a long term would fade the impact of market risks and generate a return, which is superior than all other asset classes. As equities have the ability to beat inflation in long run, they may be used for long-term wealth creation. Equities are also tax efficient.
Cons: Market risks affects the return directly in short term, so you should not put your liquid funds in equities.
Investments in debt instruments also bear market risks, but they are not as volatile as equities. Debt investments may also be done either by investing directly in bonds or other debt instruments issued by companies, government and RBI, or through diversified portfolios of debt mutual funds.
Pros: As investments are made in fixed-maturity debt instruments, which are relatively stable, the returns are quite predictable, which helps you in achieving your target better. The predictable return also provides and opportunity to use the instruments for periodic returns. Debt as an asset class helps you preserve your wealth, as many debt instruments and debt MFs are allowed to take indexation benefit while calculating the long-term capital gain at the time of redemption. The indexation benefit makes debt both inflation and tax efficient.
Cons: As investments are made in fixed-maturity debt instruments, the scope of return is also limited.
At the time of turmoil in markets or economy, people take refuge by investing in gold. So, gold is used more as hedge instrument, rather than creating wealth. It is advised that gold should comprise about 20 per cent of ones portfolio.
Pros: Presence of gold in investment portfolio helps in combating the impact of inflation and economic uncertainties in returns. The yellow metal also helps in managing risks of investing in equities and debts.
Cons: Investments in gold is not tax efficient and provides limited opportunity to generate long-term return. The sell prices of gold are generally lower than the purchase price on a given day.
Fixed Deposit (FD)
FDs are very popular instruments due to easy investment opportunity and assured returns. As people deal with banks in regular basis, they feel FDs more comfortable and trustworthy instruments.
Pros: The process of investing in FDs is very easy due to easy access to banks and it doesn’t even need any additional facility like a demat account. FDs may also be withdrawn at the time of emergency by sacrificing some interests.
Cons: FDs fail to preserve wealth as they are both tax and inflation inefficient.