I wish to invest regularly in a good equity fund on behalf of my newly born daughter. The idea is to have a sizeable sum by the time she is ready for higher studies, some 16 to 17 years later. Which option suits my needs best - dividend, growth or dividend reinvestment?
-Babar Zaidi
We would advise you to regularly invest in two or three diversified equity funds. The stress here is on regular investing, so you could choose the Systematic Investment Plan (SIP) option and allocate a fixed amount to these funds on a monthly or quarterly basis. For choosing the funds, you could use the Value Research Scorecard. However, since your investment horizon is really long, we would advise you to choose funds with a strong performance record over a long period of existence. If your primary objective is stability in returns then you could choose HDFC Equity and Franklin India Bluechip, both of which have a predominantly large-cap based portfolio. On the other hand, if you are willing to take a little more risk with very healthy upsides then you could also consider Franklin India Prima and Reliance Vision.
As far as choosing between the different options is concerned, let's proceed by elimination. The dividend option is out because you do not have any current income needs from your investments.
The choice between the growth and dividend reinvestment option is usually guided by the prevailing tax structure. In a growth option, the increase in value of a fund's investments are not distributed through dividends but retained by the fund and this gets reflected in the higher NAV of the fund.
However, in a dividend reinvestment option, new units are issued to an investor in lieu of the increase in value of a fund's investments. So, while the gain remains the same in the two cases, there are tax implications. If capital gains are taxable then the dividend reinvestment option is a better bet. However, if dividends are taxable then the growth option is a better bet. As things stand now, there are no incentives for either options. But it is something that you will have to keep an eye on.
Finally, we would advise you to consider another option. Given that you are looking for capital appreciation with limited downside, we suggest that you look at equity-oriented hybrid funds. Our pick in this category is HDFC Prudence, which has an exceptional performance history and is ideally suited to your needs.
A final word of caution might be in order. Remember, a good investment today need not necessarily remain that way. So, it is absolutely essential that you monitor your investments regularly and be proactive in managing them. Over time, a good fund may turn bad, or may remain good but yet become unsuitable because your requirements change.
This article was originally published on September 20, 2004.
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