What are Equity Investments and How to Invest in Equities?
Equity investment means buying or holding company stocks and shares. People invest in equities to earn profits on their investment through capital gains or dividends. However, equity investments always carry market risks. If the market demand for a particular share is high, its price will increase, resulting in profits and vice versa.
This blog is a beginner’s guide to equity investments, types, benefits, how to invest in equity, taxation and the risks involved. Read on!
Types of Equity Investments
Here are some of the ways of investing in equity:
Equity shares signify a part of a company’s value. Retail investors can buy shares of a company when it launches its Initial Public Offering (IPO). Moreover, individuals can buy or sell the shares once they get listed on the stock exchanges.
2. Equity Mutual Funds
Equity mutual funds collect money from different investors and allocate the fund corpus to shares of listed companies. Based on investing strategy, theme, and diversification with regard to market capitalisation, equity mutual funds are of various types. These include large-cap funds, value funds, sector funds, etc.
Asset Management Companies (AMC) such as Navi Mutual Fund offer multiple equity schemes to fulfil the financial goals of investors. You can start investing in the Navi Nifty 50 and other Navi Mutual Funds through Zerodha, Paytm Money and Groww, to name a few.
3. Equity Derivatives
Besides the cash market in which stocks are sold and bought, there exists a derivative market where shares are traded. A derivative refers to a financial instrument whose value depends on the performance of the underlying asset.
An individual invests in either options or futures contracts in the derivatives market. Options and futures contracts enable the investors to sell or buy underlying stocks at the present price but postpone the delivery to a future date that is predetermined.
4. Arbitrage Funds
In the stock market, arbitrage refers to the sale and purchase of the same stock during but on different exchanges/markets to get benefit from the price differential. Fund managers of arbitrage funds seek arbitrage opportunities to generate returns for investors.
5. Alternative Investment Funds
The concept of alternative investment funds is very much new in India with regard to equity investment. This option is only available for certain investor groups. An alternative investment fund collects money from foreign as well as domestic investors, which includes HNIs. Some of the common examples of alternative investment funds are hedge funds and Real Estate Investment Trusts (REITs).
6. Futures and Options
Futures and options are derivatives, i.e. they are financial contracts between two parties to buy or sell an underlying asset at a specific price on a specific date. In the case of stock futures and options, the underlying asset is a stock.
As the prices of the equities are mentioned in futures and options, it acts as a safeguard against market fluctuations in the future.
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Benefits of Investing in Equity
Here are some benefits one can get by investing in equity instruments:
1. High Return Potential
Equity instruments can generate huge returns within a short period of time. If one gets his/her timing right and chooses the right stocks, the stock markets can provide significant gains for investors.
2. Liquidity
Another benefit of equity instruments is that they have high liquidity. It is easy to buy and sell equity instruments on stock exchanges because of the participation of a high number of buyers and sellers.
3. Diversification
Equity provides a good opportunity to diversify one’s investment basket. Investors can pick different stocks from various sectors and reduce the risk component. Diversification acts as a shock absorber and protects against market volatility.
4. Ownership
Investors putting in their money to buy equity shares of a company also get part ownership rights of the company. They become eligible to take part in the decision-making process by exercising their voting rights. Shareholders can exercise their right to attend important meetings of the company.
How to Invest in Equities?
Detailed below are the three main ways an individual can invest in equities:
Follow these steps to invest in equity shares:
Step 1: Open a Demat and Trading Account
A trading account is important as it helps investors to place orders for buying or selling shares. On the other hand, a Demat account is an online account where shares can be stored electronically. You need to have both of these accounts to buy and sell shares.
Step 2: Decide How You Wish to Invest
If you have the time and knowledge to conduct minute research, you can directly invest in stocks through your trading and Demat account. However, you can also hire experts to choose the right stocks for you.
Step 3: Choose the Stocks You Wish to Invest In
If you are investing in stocks by yourself, you can create an equity portfolio based on your risk appetite and financial goals. Then, invest in shares of companies listed on stock exchanges such as the Bombay Stock Exchange (BSE) and National Stock Exchange (NSE).
Step 4: Regularly Monitor Your Portfolio
Regularly monitoring your investment portfolio is important as it helps to understand which stocks are performing well and which assets need to be replaced. It helps to fulfil your financial aims.
2. Investing Through Mutual Funds
The following are the steps to invest in equities via mutual funds:
Step 1: Formulate Your Financial Goals
First, make a proper outline of your financial goals and risk appetite. Based on these details, choose an investment tenure as well. These steps will help you narrow your focus down for choosing a suitable mutual fund.
Step 2: Write Down the Investment Terms on Paper
Although it is true that mutual funds are associated with lower risk, compared to equity stocks, it is not entirely risk-free. So, before you invest in a scheme, make a thorough analysis of your risk appetite. It would help you decide on the investment amount. Then, decide whether you wish to invest via SIPs (Systematic Investment Plan) or lump sum mode.
Step 3: Choose an Asset Management Company (AMC)
It is important to research the equity funds available in the market as it would help you choose the most suitable option that is aligned with your investment goals. Having an idea about the pros and cons of various schemes would further help you to make an informed decision.
Step 4: Visit the Official Website of the Fund House
Visit the official website of the AMC and register yourself. Navigate to the ‘Mutual Funds’ section and select the equity fund you wish to invest in. Click to proceed.
Step 5: Complete the Required Formalities
Fill up the required details in the form that you would be directed to. Make sure you complete all the required e-KYC formalities. Fill up your bank details and deposit the investment amount to initiate investments.
3. Investing Through ETFs
Exchange Traded Funds (ETFs) are pooled investment vehicles that can be bought or sold on the stock exchange. Follow these steps to invest in ETFs:
Step 1: Open a Brokerage Account
A brokerage account is mandatory before you can purchase and sell off ETFs. Most online brokers allow people to open brokerage accounts online. It is advisable to study the various features and platforms of the brokers before choosing one.
Step 2: Select Your ETFs
An important piece of advice for beginners would be to opt for passive index funds which are more cost-effective than actively managed ETFs.
Step 3: Transfer the Money
Fill up the required details and transfer the investment amount to initiate your investment.
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Who Should Invest in Equity?
Investors having a high-risk appetite can invest in equity funds. The returns on direct equity investments depend on the investors’ skills and knowledge. That said, investment in equity funds is a suitable option for individuals with inadequate knowledge and limited time. This is because the fund managers of the schemes take all the buy-and-sell decisions.
Also, investors having a long-term investment horizon can consider investing in equity. The stock market is volatile; there might be substantial swings in value during the short term. However, investors can reduce the risk by choosing a long-term investment horizon.
Taxation on Equity Investments
Equity investments are subject to taxation under the following categories:
1. Capital Gains
Capital gains received from equity investments are taxable under short-term capital gains tax or long-term capital gains tax, depending on the holding period. If the holding period of equity investments is less than 12 months, STCG is applicable. The rate of STCG is 15%.
On the other hand, if the holding period of assets is 12 months or more, LTCG tax is levied on the proceeds. The tax rate, in this case, is 10% without indexation benefits. Profits of up to Rs.1,00,000 are exempt from LTCG taxation.
2. Speculative Income
Any income earned by a company or an individual through intraday trading is classed under speculative income. These are added to the gross total income of taxpayers and taxed as per respective tax slabs.
3. Dividend Income
Shareholders of listed companies are liable to receive dividends either quarterly or annually. From the financial year 2020-21, all dividend income has been taxable in the hands of investors. This income is added to their total income and taxed as per applicable tax slab rates.
Risks Involved in Equity Investments
An individual who wishes to invest in equity has to keep in mind the following risks associated with it:
1. Market Risk
In case the financial market is not performing well due to macro factors like economic slowdown, investors may incur losses. That said, individuals can mitigate this risk by building a diversified portfolio.
2. Performance Risk
This refers to the possibility of underperformance in relation to stocks or sectors. Equity funds investing in individual stocks may not bring about expected performance if the price of the underlying stocks falls owing to some reason. Sectoral/thematic funds are highly exposed to this risk, because they predominantly invest the fund corpus in a specific sector, for example, information technology, energy and healthcare.
3. Liquidity Risk
Liquidity is the ease with which financial assets can be sold in sufficient quantities at a fair price as and when desired. Equity investments come with liquidity risk. In other words, individuals may have to sell their holdings at a value that is lower than the invested amount owing to a lack of demand on the stock exchange. Usually, shares which trade in small quantities on stock exchanges are more likely to face liquidity risk.
4. Legislative/Political/Social risk
Legislative, social and political changes determine business performance. For instance, if a country increases its entry barriers to international businesses, its local industries will tend to perform better until the barriers are removed. But after removing protectionism, the home-grown companies may lose this advantage. This, in turn, may lead to a decline in share price.
5. Exchange/Currency Rate Risk
Movements in the exchange rate between currencies cause currency risks. Investors exposed to foreign equity trade face exchange rate risks. In addition, companies which earn a significant portion of their income from international operations are also prone to currency risk.
Final Word
If you have an aggressive investment outlook and a high-risk appetite, you can consider directly investing in equities. But, keep in mind that you would have to conduct research and make all important decisions yourself. On the other hand, you can invest in companies via equity mutual funds that are managed by fund managers. To start investing in low-cost equity funds, visit Navi Mutual Fund now!
FAQs
Ans: Direct equity investment denotes the investment which gives legal ownership of a company to an investor directly. This means he/she purchases the company’s shares. Investors having knowledge of the equity market can consider buying equity shares directly from stock exchanges.
Ans: Here’s how to invest in equity:
You can opt for a Demat account with a stock broking company to invest in the stock market.
You can consult a financial advisor who will help you build a portfolio to achieve your financial goals.
You can directly invest in equity-oriented mutual fund schemes offered by a fund house.
Ans: An initial public offering (IPO) is a process through which private companies list their shares on stock exchanges so that the general public can buy them. IPOs help companies to increase equity share capital by issuing new shares to the public. It also allows existing shareholders to sell their shares via an offer for sale (OFS).
Ans: Nifty 50 refers to an index comprising the top 50 large-cap companies of India that lead in their specific sectors. This index serves as a hypothetical portfolio that showcases the overall performance of the Indian stock market.
Ans: Under Section 80C of the Income Tax Act, 1961, you can claim tax deductions of up to Rs. 1,50,000 by allocating funds to an Equity Linked Savings Scheme (ELSS) in a financial year. This tax benefit is not applicable in the case of direct equity investments.
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Disclaimer: Mutual Fund investments are subject to market risks, read all scheme-related documents carefully.
This article has been prepared on the basis of internal data, publicly available information and other sources believed to be reliable. The information contained in this article is for general purposes only and not a complete disclosure of every material fact. It should not be construed as investment advice to any party. The article does not warrant the completeness or accuracy of the information and disclaims all liabilities, losses and damages arising out of the use of this information. Readers shall be fully liable/responsible for any decision taken on the basis of this article.
