You may also be interested to know that the returns generated over a long term period (above
365 days, also called long term capital gain) are completely exempted from personal income tax.
This is an added attraction to investing in equities.
Real Estate
Real Estate investment involves transacting (buying and selling) commercial and
non commercial land. Typical examples would include transacting in sites, apart-
ments and commercial buildings. There are two sources of income from real es-
tate investments namely – Rental income, and Capital appreciation of the invest-
ment amount.
The transaction procedure can be quite complex involving legal verification of documents. The
cash outlay in real estate investment is usually quite large. There is no official metric to measure
the returns generated by real estate, hence it would be hard to comment on this.
Commodity – Bullion
Investments in gold and silver are considered one of the most popular invest-
ment avenues. Gold and silver over a long-term period has appreciated in value.
Investments in these metals have yielded a CAGR return of approximately 8%
over the last 20 years. There are several ways to invest in gold and silver. One can
choose to invest in the form of jewelry or Exchange Traded Funds (ETF).
Going back to our initial example of investing the surplus cash it would be interesting to see how
much one would have saved by the end of 20 years considering he has the option of investing in
any one – fixed income, equity or [Link] investing in fixed income at an average rate of 9% per
annum, the corpus would have grown to Rs.3.3 Crs
1. By investing in fixed income at an average rate of 9% per annum, the corpus would have
grown to Rs.3.3 Crs
[Link] in equities at an average rate of 15% per annum, the corpus would have
grown to Rs.5.4 Crs
3. Investing in bullion at an average rate of 8% per annum, the corpus would have grown to Rs.
3.09 Crs
Clearly, equities tend to give you the best returns especially when you have a multi – year invest-
ment perspective.
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A note on investments
Investments optimally should have a strong mix of all asset classes. It is smart to diversify your
investment among the various asset classes. The technique of allocating money across assets
classes is termed as ‘Asset Allocation’.
For instance, a young professional may be able take a higher amount of risk given his age and
years of investment available to him. Typically investor should allocate around 70% of his investa-
ble amount in Equity, 20% in Precious metals, and the rest in Fixed income investments.
Alongside the same rationale, a retired person could invest 80 percent of his saving in fixed in-
come, 10 percent in equity markets and a 10 percent in precious metals. The ratio in which one
allocates investments across asset classes is dependent on the risk appetite of the investor.
1.3 - What are the things to know before investing
Investing is a great option, but before you venture into investments it is good to be aware of the
following…
1. Risk and Return go hand in hand. Higher the risk, higher the return. Lower the risk, lower is
the return.
2. Investment in fixed income is a good option if you want to protect your principal amount. It is
relatively less risky. However you have the risk of losing money when you adjust the return for
inflation. Example – A fixed deposit which gives you 9% when the inflation is 10% means you
are net net losing 1% per annum. Fixed income investment is best suited for ultra risk averse
investors
3. Investment in Equities is a great option. It is known to beat the inflation over long period of
times. Historically equity investment has generated returns close to 14-15%. However, equity
investments can be risky
4. Real Estate investment requires a large outlay of cash and cannot be done with smaller
amounts. Liquidity is another issue with real estate investment – you cannot buy or sell
whenever you want. You always have to wait for the right time and the right buyer or seller to
transact with you.
5. Gold and silver are known to be a relatively safer but the historical return on such investment
has not been very encouraging.
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Key takeaways from this chapter
1. Invest to secure your future
2. The corpus that you intend to build at the end of the defined period is sensitive to the rate of
return the investment generates. A small variation to rate can have a big impact on the corpus
3. Choose an instrument that best suits your risk and return appetite
4. Equity should be a part of your investment if you want to beat the inflation in the long run
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C H A PT E R 2
Regulators
2.1 - What is a stock market?
• Investing in equities is an important investment that we make in order to generate inflation
beating returns. This was the conclusion we drew from the previous chapter. Having said that,
how do we go about investing in equities? Clearly before we dwell further into this topic, it is ex-
tremely important to understand the ecosystem in which equities operate.
Just like the way we go to the neighborhood kirana store or a super market to shop for our daily
needs, similarly we go to the stock market to shop (read as transact) for equity investments.
Stock market is where everyone who wants to transact in shares go to. Transact in simple terms
means buying and selling. For all practical purposes, you can’t buy/sell shares of a public com-
pany like Infosys without transacting through the stock markets.
The main purpose of the stock market is to help you facilitate your transactions. So if you are a
buyer of a share, the stock market helps you meet the seller and vice versa.
Now unlike a super market, the stock market does not exist in a brick and mortar form. It exists in
electronic form. You access the market electronically from your computer and go about conduct-
ing your transactions (buying and selling of shares).
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Also, it is important to note that you can access the stock market via a registered intermediary
called the stock broker. We will discuss more about the stock brokers at a later point.
There are two main stock exchanges in India that make up the stock markets. They are the Bom-
bay Stock Exchange (BSE) and the National Stock Exchange (NSE). Besides these two exchanges
there are a bunch of other regional stock exchanges like Bangalore Stock Exchange, Madras Stock
Exchange that are more or less getting phased out and don’t really play any meaningful role any-
more.
2.2 - Stock Market Participants and the need to regulate them
The stock market attracts individuals and corporations from diverse backgrounds. Anyone who
transacts in the stock market is called a market participant. The market participant can be classi-
fied into various categories. Some of the categories of market participants are as follows:
1. Domestic Retail Participants – These are people like you and me transacting in markets
2. NRI’s and OCI – These are people of Indian origin but based outside India
3. Domestic Institutions – These are large corporate entities based in India. Classic example
would be the LIC of India.
4. Domestic Asset Management Companies (AMC) – Typical participants in this category
would be the mutual fund companies such as SBI Mutual Fund, DSP Black Rock, Fidelity
Investments, HDFC AMC etc.
5. Foreign Institutional Investors – Non Indian corporate entities. These could be foreign
asset management companies, hedge funds and other investors
Now, irrespective of the category of market participant the agenda for everyone is the same – to
make profitable transactions. More bluntly put – to make money.
When money is involved, human emotions in the form of greed and fear run high. One can easily
fall prey to these emotions and get involved in unfair practices. India has its fair share of such
twisted practices, thanks the operations of Harshad Mehta and the like.
Given this, the stock markets need someone who can set the rules of the game (commonly re-
ferred to as regulation and compliance) and ensure that people adhere to these regulations and
compliance thereby making the markets a level playing field for everyone.
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2.3 - The Regulator
In India the stock market regulator is called The Securities and Exchange board of India often
referred to as SEBI. The objective of SEBI is to promote the development of stock exchanges, pro-
tect the interest of retail investors, regulate the activities of market participants and financial in-
termediaries. In general SEBI ensures…
1. The stock exchanges (BSE and NSE) conducts its business fairly
2. Stock brokers and sub brokers conduct their business fairly
3. Participants don’t get involved in unfair practices
4. Corporate’s don’t use the markets to unduly benefit themselves (Example – Satyam
Computers)
5. Small retail investors interest are protected
6. Large investors with huge cash pile should not manipulate the markets
7. Overall development of markets
Given the above objectives it becomes imperative for SEBI to regulate the following entities. All
the entities mentioned below in Table 2.1 are directly involved in the stock markets. A malprac-
tice by anyone of the following entities can disrupt what is otherwise a harmonious market in In-
dia.
SEBI has prescribed a set of rules and regulation to each one of these entities. The entity should
operate within the legal framework as prescribed by SEBI. The specific rules applicable to a spe-
cific entity are made available by SEBI on their website. They are published under the ‘Legal
Framework’ section of their site.
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Table 2.1 - Regulators in India
Example of
Entity What do they do? In simpler words
companies
They rate the credit
If a corporate or Govt entity wants to avail
Credit Rating CRISIL, ICRA, worthiness of
loan, CRA checks if the entity is worthy of
Agency (CRA) CARE corporate and
giving a loan
governments
When companies want to raise a loan they
can issue debenture against which they
Debenture Almost all banks Act as a trustee to promise to pay an interest. These
Trustees in India corporate debenture debentures can be subscribed by public. A
Debenture Trustee ensures that the
debenture obligation is honored
Acts like a vault for the shares that you buy.
The depositories hold your shares and
Safekeeping, facilitate exchange of your securities. When
reporting and you buy shares these shares sit in your
Depositories NSDL and CDSL
settlement of clients Depositary account usually referred to as the
securities DEMAT account. This is maintained
electronically by only two companies in
India
Most of the banks You cannot directly interact with NSDL or
Depositary Act as an agent to the
and few stock CDSL. You need to liaison with a DP to open
Participant (DP) two depositories
brokers and maintain you DEMAT account
These are foreign entities with an interest to
Foreign Foreign invest in India. They usually transact in large
Make investments in
Institutional corporate, funds amounts of money, and hence their activity
India
Investors and individuals in the markets have an impact in terms of
market sentiment
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Example of
Entity What do they do? In simpler words
companies
If a company plans to raise money by
Help companies raise
Merchant Karvy, Axis Bank, floating an IPO, then merchant bankers are
money in the primary
Bankers Edelweiss Capital the ones who help companies with the IPO
markets
process
An AMC collects money from the public,
Asset HDFC AMC, puts that money in a single account and
Offer Mutual Fund
Management Reliance Capital, then invest that money in markets with an
Schemes
Companies(AMC) SBI Capital objective of making the investments grow
and thereby generate wealth to its investors.
Portfolio
Managers/
They work similar to a mutual fund except in
Religare Wealth Offer PMS schemes
Portfolio a PMS you have to invest a minimum of Rs.
Management,
Management 25,00,000 however there is no such cap in a
Parag Parikh PMS
System mutual fund
(PMS)
Stock Brokers Act as a intermediary Whenever you want to buy or sell shares
Zerodha,
and Sub Brokers between an investor from the stock exchange you have to do so
Sharekhan, ICICI
and the stock through registered stock brokers. A sub
Direct
exchange broker is like an agent to a stock broker
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Key takeaways from this chapter
1. Stock market is the place to go to if you want to transact in equities
2. Stock markets exists electronically and can be accessed through a stock broker
3. There are many different kinds of market participants operating in the stock markets
4. Every entity operating in the market has to be regulated and they can operate only within the
framework as prescribed by the regulator
5. SEBI is the regulator of the securities market in India. They set the legal frame work and
regulate all entities interested in operating in the market.
6. Most importantly you need to remember that SEBI is aware of what you are doing and they
can flag you down if you are up to something fishy in the markets!
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C H A PT E R 3
Financial Intermediaries
3.1 - Overview
From the time you access the market – let’s just say, to buy a stock till the time the stocks comes
and hits your DEMAT account, a bunch of corporate entities are actively involved in making this
work for you. These entities play their role quietly behind the scene, always complying with the
rules laid out by SEBI and ensure an effortless and smooth experience for your transactions in the
stock market. These entities are generally referred to as the Financial Intermediaries.
Together, these financial intermediaries, interdependent of one another, create an ecosystem in
which the financial markets exists. This chapter will help you get an overview of who these finan-
cial intermediaries are and the services they offer.
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