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How to peel the fruit of equity investments?

Invest regularly in a mix of stable large to large-mid stocks for years to gain from equity investments

How to peel the fruit of equity investments?

The cornerstone of all advice on personal finance is that equity is the best class of asset in the long run. The numbers don't lie and nor does history, for that matter.

Investing in the Indian equities market over the past decade or so could easily have gotten investors gains of around 18 per cent per annum, and 18.5 per cent in the Sensex, to be precise.

In practice, a number of equity funds that have been around for a decade have done better and many have done substantially better.

Add the systematic investment plan (SIP) to the mix and the picture becomes even rosier, with the Sensex itself returning around 22 per cent. In fact, many equity funds have far higher rates of returns, in the 25-30 per cent range. These kinds of returns sustained over a decade or more are capable of producing serious wealth without much of an effort.

Over the past 10 years, a saving of Rs 20,000 a month at typical fixed income interest rates would have left you with Rs 36 lakh while a SIP in a typical equity fund would have left you with around Rs 1.2 crore. That's the kind of differential that can change someone's life.

However, it is no secret that equity investors who realise such returns are few and far between. Financial advisors come across far more people who have managed to either lose money or gain very little while investing in equity. Why is this so? If equity investing is such a wonderful thing, why aren't the streets full of ordinary investors singing hosannas to the greatness of stocks? It is clear to me that the answer lies in the large gulf between the theory and practice of stock investing.

All these wonderful things can happen if, and only if, those investors stick to the straight and narrow. Invest in a mix of stable large to large-mid stocks; invest regularly to average your cost and keep investing for years and years. Most importantly, don't stop investing when the market is down and don't invest more when the market is up. I'm not sure how many people actually do this.

Perhaps, the theory remains a theory for most of us and all that we do is whatever instinct tells us to do. I get a clue to this in the kind of questions people ask about SIP. Here's a typical one: "I've been investing in SIPs for more than a year, should I book profits now?"

This is wrong at two different levels. One, is obviously, the view that one year is long-term. But deeper than that is the problem of thinking that doing SIPs in an equity mutual fund is a way of investing in equity akin to short-term punting.

The fruits of equity investing are available to everyone, but we'll have to figure out how to peel that fruit.

This article first appeared in The Economic Times on November 1, 2010.