Most of us use a good portion of our income in paying for the utility bills, loan EMIs, credit card bills, and other expenses, while keeping the rest in our bank accounts. Usually, this money is considered as savings and offers you liquidity (cash in hand) so that you can withdraw or use it at any time to fulfil your financial needs.
Salaried individuals or people with a regular source of income who are new to banking and investing prefer savings accounts as an ideal option to invest in for short or long-term savings. Several banks in India offer individuals different kinds of savings accounts as per their needs and requirements. All banks set interest rates on their savings accounts that usually vary from 2.50% per annum to 7.00% per annum, depending on the amount of savings. For instance, currently most banks pay around 3.50% – 4.00% p.a interest on savings account for deposits upto Rs 1 lac.
However, do note that there is an opportunity cost of keeping large sums of money in your savings bank account. The interest earned on savings bank deposits is lower than the inflation rate. Thus, while banks offer the convenience of ‘any time money’, your money is unproductive when it is lying in your savings bank account, and it will not beat the cost of inflation in future. Having said that, it is prudent for every individual to invest their money lying idle in a savings bank account into worthy investment avenues like mutual funds that endeavour to generate inflation-beating returns.
You see, before one considers investing their money lying idle in a bank account into market-linked instruments, one needs to ensure that their liquidity needs are met. Life is unpredictable, and you must be financially prepared to survive the tide of any unforeseen event like a medical emergency, loss of job, pandemic etc. You need to have a safety net in the form of a contingency fund that is easily accessible and provides liquidity to manage your finances in times of need. This contingency fund could be your savings bank account, or individuals may consider investing a portion of their savings into liquid funds.
Why invest in Liquid Funds?
As the name suggests, Liquid Funds are those funds where the investments can be readily withdrawn to get immediate cash. They invest in short-term debt and money market instruments like Certificate of Deposit, Commercial Papers, T-bills, etc. which they hold until maturity or premature withdrawals. Liquidity in an investment instrument is its ability to be converted into cash immediately, and liquid funds serve this purpose. Thus parking some money into liquid funds helps maintain liquidity in an investor’s portfolio and takes care of any exigencies.
Consequently, bear in mind that not all the money lying in your bank account is idle. You need to first understand your liquidity needs and maintain an adequate sum. Thereafter, the surplus could be deployed in productive asset classes and investment avenues based on your suitability as per your risk profile, investment horizon and goals.
The surplus funds lying idle in your bank account are the funds that are not required in the immediate future. Considering the market volatility, many are hesitant to invest their hard-earned money into products like mutual funds or stocks or bonds etc. This may also be the result of procrastination, waiting for the ideal moment or a sizable investment amount, or being unable to select a suitable investment product. However, the number of investment choices is almost overwhelming.
Here are a few options that you may consider to invest the idle money lying in your bank account:
Given that, equity-oriented mutual funds make it easy for novice investors to start investing right away in a diverse portfolio and begin their journey towards wealth creation.
1. Large-cap Mutual Funds –
These funds invest in stocks of companies which are top 100 by market capitalisation and stock market evaluation. Since these large cap funds are low on the risk-return spectrum of equity mutual funds, it is a great investment scheme for beginners who have just started learning about the market.
2. Index Funds or ETFs –
Index Funds and Exchange Traded Funds (ETFs) are designed to mirror market indices like the S&P BSE 500 or any other specific index and provide investors with exposure to a diversified fund across sectors. These are passively managed funds that merely replicate an underlying index’s performance while limiting fund managers’ intervention. These funds may offer decent gains at a low cost and may reduce the stock-selection risk.
3. Fund of Fund Schemes –
A ‘Fund of Funds’ (FOF) scheme passively invests in other mutual funds rather than investing directly in stocks, bonds or other securities. By investing in different mutual funds, which in turn invests in different underlying asset or asset subclass, offers the benefit of diversification and reduces the risk. This is also a great medium of investment in mutual funds for those who don’t have expertise in selecting equity funds themselves.
4. Equity Linked Savings Scheme (ELSS) –
ELSS is similar to any other diversified equity mutual fund except that it comes with a 3-year lock-in period and tax advantage. ELSS funds are an excellent option for first-time investors, and these funds have the potential to offer better gains as compared to other tax-saving options under 80C like NPS, PPF etc.
In addition to equity funds, hybrid funds are a category of mutual funds that invest in two or more asset classes, namely debt and equity.
5. Multi-Asset Allocation Funds –
These are a type of mutual funds that invest across different asset classes like equity, debt, and gold. The rationale behind using different asset classes rides on the fact no two asset classes perform in the same direction at the same time in a market phase. The multi-asset allocation funds are deemed suitable for new investors with a low-risk appetite seeking steady gains on their investments.
Apart from the above-mentioned options, investors may also consider investing in gold as an asset class. Instead of buying physical gold and taking on the risk of storage and security, invest wisely in gold mutual funds. Although gold mutual funds are paper units, they invest in actual gold, and thus, when the price of physical gold rises, it influences the performance of gold mutual funds. Moreover, as per historical data, gold investments have also beaten the average inflation rate in most years.
6. Gold Mutual Funds/ Gold ETFs –
Gold ETFs aim to track the domestic physical gold price; they are passive investment instruments based on gold prices and invest in gold bullion. Gold ETFs are represented by 99.5% pure physical gold bars. Gold ETFs are listed on BSE & NSE, like any other company stock, and can be bought and sold continuously at market prices.
Gold Savings Fund is an open-ended Fund of Fund scheme offered by mutual fund houses investing its corpus into an underlying Gold ETF, which benchmarks the performance against prices of physical gold. You may consider investing in a Gold Savings Fund through the SIP route, as it will assist you in investing in gold regularly in a systematic and disciplined manner.
How you can beat inflation with investment in mutual funds?
To prevent the loss of your money due to inflation, savings is not enough. Thus, investing the idle money in your bank account in various asset classes that can beat inflation over the long term through mutual funds is the best way to achieve this.
The two main investment options offered by mutual funds are the one-time Investment Plan and the Systematic Investment Plan (SIP). The majority of investors prefer investing through monthly SIP plans, due to the variety of benefits that it offers, such as rupee cost averaging, power of compounding, lighter on the wallet, and instils the habit of regularly investing. SIPs will help you mitigate risk better and negotiate market volatility with the inherent rupee-cost averaging feature. The power of compounding will help investors in wealth creation and beat inflation in the long run.
Due to inflation, the value of your money decreases every minute, and if you are doing nothing about it, then you are essentially allowing inflation to take away the hard-earned money from you. This is why it is crucial to invest in products like mutual funds that have the potential to beat inflation with a good margin.
This article first appeared on PersonalFN here