Investment decisions are one of the most important financial decisions we make in our lives. These days, we have a plethora of investment options that we are confused about which one to go with. I would say we are even more confused about the parameters to be considered before choosing an investment option. We do consider a few of them, but we tend to overlook a majority of them. Let us dig a little deeper into some of those overlooked factors.
i. TIME HORIZON
Time horizon/ investment time horizon is one of the crucial determinants of our investment decision. As we all know investment time horizons are mainly of five types, viz.:
- Very short-term; less than 3 months
- Short-term (3-12 months)
- Medium-term (1-3 years)
- Long-term (3-10 years)
- Very long-term (10+ years)
With the increasing length of time horizons, the nature of risk our investments are exposed to can vary. Ideally, in a growing economy like India, equity assets are the category that offers a much greater scope of wealth creation when it comes to long duration.
ii. INVESTMENT RISKS
Investments can be exposed to risks arising from a variety of factors viz., Markets, Nature of Asset Class, Manufacturer, Financial and Regulatory Environment, Political Climate, etc. However, we should understand that these risks tend to vary depending upon the nature of the asset class.
Equity risks are mainly driven by the market, company, and sector, but debt risks generally appear in the form of credit risk, liquidity, reinvestment, etc.
iii. LIQUIDITY
Investment options can turn worthless if it doesn’t help us liquidate them when in need. Life is uncertain and it becomes difficult if our investments are blocked in times of emergency. By the term liquidity, we mean ‘The Ease of getting our Investments Back, within a Short Period without Incurring Too Much Cost/ Sacrifice of Value at the Time of Redemption. To derive the maximum benefit from investments, we should go for investment options with high liquidity. However, investors should be disciplined enough to restrict themselves from liquidating investments for petty/ general expenses.
iv. COSTS
All investments have a cost attached to them. Investments come with 3 types of costs, viz those incurred:
At the time of investing new or additional money (entry load)
When investment is active (expense)
At time of exit or withdrawal of money (exit load)
The costs can be calculated as a percentage of the amount or a fixed sum of agreed fees. Moreover, costs may be imposed for distribution, transaction services, or advisory services. The cost might also be incurred while making service or operational requests, which goes beyond the normal investment costs. Over time, the costs of many products have gone down. Yet costs remain a major factor to be considered when one is investing large amounts in products like PMS scheme, liquid funds, insurance products, etc.
v. TAX CONSIDERATIONS
Tax Incidence can be defined as an economic term for understanding the division of a tax burden between stakeholders. There are 4 instances where tax incidence has to be evaluated, which are:
i. At the time of making investments, in case the investment option is eligible for rebate or deduction.
ii. Taxability of the income generated from our investments. These incomes can mainly be in the form of interest or dividends.
iii. When any investment is redeemed or sold.
iv. Of Wealth Tax, which is more relevant of high net-worth individuals.
Investments have the potential to offer tax benefits to us on any combination of these tax incidences. Smart investment decisions will help us gain the best tax benefits and minimum tax liability from our investment.
vi. SUITABILITY
These days, there is ‘n’ number of customized investment options available in the market that serve specific purposes like pension, retirement, wealth creation, child education, etc. However, to make the right investment option, we need to have clarity on our investment objectives. It is equally important to be wary while choosing these options as just naming these products after our goals need not necessarily qualify them as a good investment option. To gain the maximum advantage of an investment option, we need to weigh the pros and cons of that investment option.
vii. CONVENIENCE & FEATURES
Constant lifestyle changes and penetration of technology in our lives have taken us to a point where there is a high preference for investment products that can be viewed and managed online. Of late, financial institutions and even government schemes and plans have started providing online services. These days, facilities like a nomination, third party transferability, loan facility, acceptability as security for a loan by financial institutions, etc. also serve as the criteria used by many of us to evaluate the investment options available. While these factors may not seem very critical, they can act as the differentiating factor for potential investors.
Thus, we can say that being aware of our investment goals and the various options available in the market together with the above-mentioned parameters shall help us make the right investment decision in a planned and organized manner. Therefore, we must develop a clear understanding of the parameters of investment decisions and use it as a guide for choosing our ideal investment option.
“An investment in knowledge pays the best interest.” — Benjamin Franklin
Idea & Concept: Suvin David, Research Analyst / Faculty
Content Development: Aswathi Satish, Niyog Consultancy Services Pvt. Ltd.