Savings and Investment Options

Savings and Investment Options

Objectives

• Explain the meaning and importance of Savings and Investments.
• Distinguish between Saving and Investments.
• Discuss various investment options and their features.
• Evaluate the risk and reward associated with various types of investment instruments.
• Discuss the meaning, types, and importance of DEMAT account.
• Highlight various savings schemes launched by the government of India during the last decade to promote financial inclusion.

Savings

• Saving refers to the amount of money saved after meeting all expenditures from disposable income.
• Disposable income is the money remaining after deducting taxes, fees, and fines from total income.
• Formula: $Saving (S) = Disposable \ income (Yd) - Expenditure (E)$
• Savings can be in various forms: cash, precious metals, goods, bank deposits, NBFC deposits, and stock markets.

Factors Affecting Savings:

• Level of Income: Higher income generally leads to higher savings, and vice versa.
• Level of Expenditure: Higher expenditure leads to lower savings, and vice versa.
• Interest Rates: Higher interest rates make saving more attractive.
• Age of Individuals: People in their 40s and 50s save for retirement, while older people may use their savings.
• Inflation: High inflation may discourage cash saving but encourage investment in fixed assets.
• Availability of Saving Schemes: More available schemes encourage more savings.
• Awareness: Awareness of the importance and benefits of savings increases savings.

Reasons for Saving:

• Achieving future goals (children’s education, property purchase).
• Retirement/old age security.
• Protection against unforeseen situations.
• Investing to generate regular income or create wealth.

Investments

• Investment is allocating money into schemes or assets that can grow in value or generate income.
• Examples: bank deposits, stock market, commodity market, real estate.
• Investment decisions are vital for financial planning.
• Investments can beat inflation through capital appreciation and offer tax avoidance benefits.
• Compounding assists in wealth creation.
• Helpful in meeting future goals like education, housing, travel, and retirement.

Various Investment Options

• Investment options can be divided into Equity and Debt.

• Equity primarily invests in shares/stocks and related instruments of companies like mutual funds (MFs)

• Debt is where your money is invested in money market instruments like fixed deposits (FDs) and bonds.

• Stocks:

  • Represent ownership in a company.
  • Returns via share price appreciation, bonus/rights issues, or dividends.
  • High risk due to market volatility.
  • Shares are acquired through IPOs, secondary markets, or employee stock options (ESOPs).
  • Require a DEMAT account for trading on BSE (SENSEX) and NSE (NIFTY 50).

• Bonds:

  • Debt instruments; bondholders have first claim on company assets.
  • Provide predictable income via annual or semi-annual interest.
  • Principal is returned at maturity.
  • Considered a safer investment with adequate returns.

• Mutual Funds (MFs):

  • Professionally managed pooled assets for passive stock market participation.
  • Pool money from many investors to create a diversified portfolio.
  • Allow small regular investments and portfolio selection based on risk.
  • Categories: Equity Fund, Debt Fund, and Hybrid Fund.
    • Equity Funds: Large cap, mid cap, small cap, multi cap, ELSS, dividend, contra, sector, value fund.
    • Debt Funds: low, medium, dynamic bond, gilt, credit risk, liquid, ultra short funds.
    • Hybrid funds: aggressive, conservative and arbitrage funds.
  • Purchased/sold based on Net Asset Value (NAV).
  • Investment options: lump sum or Systematic Investment Plan (SIP).
    • SIPs protect against market volatility and can provide good returns over 5-10 years.

• Unit Linked Insurance Plans (ULIPs):

  • Life insurance plans that invest in diversified funds based on goals and risk.
  • Offer market-linked returns and tax benefits.
  • Life insurance is provided regardless of investment performance.

• Gold:

  • Popular investment, but can be expensive and risky with storage issues.
  • Better options: Gold Exchange Traded Funds (ETFs) and Gold Bonds.
  • Benefits include appreciation in gold price and fixed returns.

• Public Provident Fund (PPF):

  • Offers good returns and a sovereign guarantee.
  • Beats inflation and builds tax-free wealth.
  • Allows liquidity and builds a safety fund.
  • Extendable after 15 years for retirement savings and tax-free pension after 60.

• Deposits with Banks and NBFCs:

  • Various deposit options with varying maturities and interest rates.
  • Schemes: savings deposit, recurring deposit, fixed deposit.
  • Popular among risk-averse individuals.
  • Fixed Deposits (FDs): Fixed returns for a specific period; low-risk; loans and overdraft facilities available.
  • Recurring Deposits (RDs): Save a specific sum in periodic installments; low-risk; guaranteed moderate returns.

• Employees Provident Fund (EPF):

  • Retirement savings scheme for salaried employees.
  • Monthly contributions from salary invested as mandated by the government.
  • Eligible for tax deduction under Section 80C of the Income Tax Act, 1961; final amount tax-free.

• National Pension Scheme (NPS):

  • Retirement pension scheme introduced in 2004.
  • Monthly contributions from employee’s salary, with employer contribution.
  • Accumulated corpus paid as lump sum and regular pension after retirement.

Factors Affecting Investment Decisions:

• Liquidity:
  • Ease of converting an asset into another with minimal cost and time.
  • Cash is most liquid, followed by bank deposits and gold.
  • Real estate, PPFs, ULIPs, and bonds are less liquid.
  • High-return investments often have low liquidity, and vice-versa.
• Risk-Return Ratio:
  • Positive correlation between risk and return.
  • High return requires high-risk investments (share market, commodity market, equity mutual funds, gold, real estate).
  • Risk-averse investors prefer low-risk, low-return instruments (bank FDs, debt mutual funds, PPFs).
• Maturity Period or Investment Tenure:
  • Longer tenures usually fetch higher returns.

Trade-offs Among Investment Options:

• A rational investor considers all factors before investing.

Saving vs Investment

• Saving is the difference between disposable income and expenditure ($Yd - E$), while investment is using savings to generate income or increase its value.
• Not all savings become investments, but investments typically stem from savings.
• Idle cash savings do not generate income and lose value over time due to inflation.
• Investment generates income or appreciates the principal amount.
• Return is linked to risk: higher risk, higher return, and vice-versa.
• Risk-averse individuals prioritize safety over high returns, while risk-bearing individuals seek maximum returns despite risks.
• Financial prudence involves balancing savings and investment and diversifying investments to minimize risks and maximize returns.

DEMAT Account

• DEMAT (Dematerialized) Account holds shares and securities electronically.
• Mandatory for buying and selling company shares.
• Banks and brokers offer trading accounts with online trading facilities.

Entities Involved:

• Depositories: Manage financial investment portfolios (NSDL, CDSL).
• Depository Participants (DPs): Act as agents between depositors and investors (banks, brokerage houses).
• Transactions require the DEMAT account number for electronic settlements.
• Access requires an internet password and transaction password.

Features and Benefits:

• Digital Account: Opened and accessed online easily.
• Safe Holding: Safer than physical shares, which can be lost, damaged, or stolen; negligible risk of forgery or theft.
• Convenient Storage and Transfer: Easy storage and transfer of securities; trading in any volume is possible; transaction details are easily monitored; facilitates swift online trading.
• Facilitates Easy Transfer: Eliminates paperwork and simplifies online share transfer.
• Convenience of Access: Accessible from various devices (mobile, tablet, laptop, PC).
• Temporary Frozen: Can be temporarily frozen to prevent transactions during contingencies.
• Stores Multiple Investments: Can hold bonds, ETFs, mutual funds, government securities, etc.
• Nomination Facility: Allows nomination, enabling the nominee to receive shareholding upon the investor's demise.
• Loan Collateral: Securities can be used as collateral for loans from financial institutions.

Types of DEMAT Accounts:

• Regular DEMAT Account: For Indian citizens residing in India.
• Repatriable DEMAT Account: For Non-Resident Indians (NRIs); requires closing regular DEMAT account and opening a Non-Resident Ordinary (NRO) DEMAT account with a Non-Resident External bank account.
• Non-Repatriable DEMAT Account: For NRIs; funds cannot be transferred abroad.

How to Open a DEMAT Account:

• Select a SEBI-registered stockbroker who is a Depository Participant at NSDL/CDSL.

Steps:

1. Visit the DEMAT Account Opening Form.
2. Enter PAN number, basic details, address, and bank details.
3. Upload soft copies of KYC documents (income proof, bank details, photograph, PAN card, Aadhaar card).
4. Complete In-Person Verification (IPV) by recording a 30-second video verifying documents.
5. E-sign the form using an Aadhaar-linked mobile number.
6. Check, review, and submit the application.

Fees:

• Account-opening fee (very low or none).
• Maintenance fee (folio maintenance charge, annual or monthly basis).
• Custodian fee (for holding securities).
• Transaction fee (for sale or purchase of securities).

Important Government Schemes

Pradhan Mantri Jan Dhan Yojana (PMJDY)

• National mission for financial inclusion.
• Ensures access to financial services: basic savings & deposit accounts, remittance, credit, insurance, pension.
• Basic Savings Bank Deposit (BSBD) account can be opened in any bank branch or Business Correspondent (Bank Mitra) outlet by individuals without an existing account.

Benefits:

• Basic savings bank account for unbanked individuals.
• No minimum balance requirement.
• Interest earned on deposits.
• RuPay Debit card provided.
• Accidental Insurance Cover of Rs. $2 \ lakh$.
• Overdraft (OD) facility up to Rs. $10,000$ to eligible account holders.
• Eligibility for Direct Benefit Transfer (DBT), Pradhan Mantri Jeevan Jyoti Bima Yojana (PMJJBY), Pradhan Mantri Suraksha Bima Yojana (PMSBY), Atal Pension Yojana (APY), Micro Units Development & Refinance Agency Bank (MUDRA) scheme.

Sukanya Samriddhi Account

• Government of India-backed saving scheme for parents of girl children.
• Encourages parents to build a fund for the future education of their female child.
• Launched on January 22, 2015, as part of the Beti Bachao, Beti Padhao campaign.
• Interest rate: $8.0\%$ (For April-June 2023 quarter) with tax benefits.
• Account can be opened at any India Post office or authorized commercial bank branch.
• Eligibility: Opened between birth and age 10.
• Only one account per child allowed; maximum of two accounts per parent (exceptions for twins/triplets).
• Account can be transferred anywhere in India.
• Minimum initial deposit: Rs. $250$.
• Subsequent deposits: multiples of Rs. $100$.
• Maximum deposit limit: Rs. $150,000$ in a financial year.
• Failure to deposit Rs. $250$ in a year incurs a fine of Rs. $50$.
• Girl can operate her account after age 10.
• Withdrawal of $50\%$ allowed at age 18 for higher education.
• Maturity: 21 years from the date of opening.
• Deposits can be made for 15 years from the date of opening.
• Account closure allowed if the girl is over 18 and married.

Life Insurance Policies

• Contract between insurer (life insurance company) and insured (policyholder).
• Policy guarantees payment to beneficiaries upon the insured’s death in exchange for premiums.

Types of Insurance Policies:

• Money back plan, endowment plan, term plan, unit-linked insurance plan, etc.

Factors Affecting Premium Amount:

• Sum of money covered.
• Age of the person soliciting the policy (proposer).
• Time period for which the person desires to be insured.
• Larger the sum, higher the premium; lower the age, lower the premium; higher the time duration, lower the premium.
• Advisable to purchase the maximum possible amount, at the earliest age, and for the longest duration.
• Premiums can be paid annually, half-yearly, quarterly, or monthly.
• Moneyback plan: Money is returned to the insured person as a survival benefit at agreed intervals; nominee receives the guaranteed amount and any accumulated bonuses upon policyholder’s death.
• Endowment plan: Provides life cover and grows money paid as premiums; beneficiaries receive financial security upon death of the insured or at maturity.
• Term insurance without return of premium plan: No return on premiums; high life cover for a low premium.
• Term insurance with return of premium plan: Refund of premiums paid if the policyholder survives the policy duration; higher premium than term plan without refund.
• Whole life insurance plan: Insured person is covered for their entire life as long as premiums are paid on time.
• Unit linked insurance plan (ULIP): Offers dual benefits of investment to fulfil financial goals and life cover to protect the insured’s family.
• Group insurance plan: Offered by employers to employees or workers; relatively inexpensive or free; death benefits are generally limited.
• Child insurance plan: Insures the life of a minor; protects against funeral costs and secures inexpensive insurance for the child’s lifetime.
• Retirement plan: Requires monetary contributions or investments to make periodic payments in the form of a pension after a certain age; the amount of pension depends on accumulated premiums and bonuses.
• Postal Life Insurance (PLI): Available for employees of Central & State Governments, Defence and Para-Military Services, Public Sector Undertakings, Banks, Educational Institutions, Local Bodies, professionals, and employees of companies listed with NSE and BSE.
• Health policy: Asserts financial compensation of the medical bills in case of critical illness and prolonged hospitalization of the insured person.

Important Considerations:

• Life insurance policies provide financial security, help pay off debts, living expenses, educational expenses, medical expenses, and financial security for dependents.
• It is suggested not to mix insurance and investment together in a single plan.
• Advisable to purchase a life insurance plan purely for life cover and invest money separately for future income generation or capital appreciation.
• Read offer documents carefully before investing or purchasing any insurance policy.