Is investing in FDs alone enough?

The person estimates that if his daughter were to be married today it would cost about Rs. 5 lacs. He has this 5 lacs today, and wanted to know what would happen if he deposited this in a fixed deposit and took it out after 20 or 25 years. Will inflation eat into the earnings, or will the interest rate from the fixed deposit be enough over such a long term to beat inflation. I can't think of a time in the last five years or so when you could make more in fixed deposits than inflation, but then we all know that people have a short memory and your memory is always colored with what happened recently. This question is one of real interest rate (Nominal Interest – Inflation), and I looked to see if I could find this data over a really long scale. Here is what I found on the World Bank website:   World Bank Data on Real Interest Rate in India They describe Real Interest Rate as follows: Real interest rate is the lending interest rate adjusted for inflation as measured by the GDP deflator. I will dig deeper into these numbers and their definitions in a later post, but for now I wanted to show that in the past we've had better real interest rates than what we see now. And if oil prices don't spiral totally out of control, we will probably see the end of the high inflation period we have seen recently. That said, the way these numbers are calculated lend me to believe that just putting money in a fixed deposit and earning interest on it will not suffice. So, what should  you do? The thought of getting into equities is tempting, but for someone who is looking at fixed deposits as an end -  I'd not recommend that.  You'd lose too much sleep and probably won't be able to handle the volatility the share market brings with it. Personally, I'd recommend saving more. Yes, I know we're not in a recession any more, and this kind of talk is not sexy these days, but you have to understand that there is risk in equity, and you should be able to handle it. There is no point in getting into shares if you can't handle risks, and I don't think you can handle risk very well if you use the money that you're counting on to conduct your daughter's wedding in the share market. The volatility will drive you insane. Save more, build a buffer, and then if you have money that you think you can lose without losing your sleep over it – enter equities. Remember, it's the good times when you get an opportunity to save more and build wealth – times such as these when everyone is talking about hot stocks are the times when you get carried away and make bad decisions. Stick to the basics; be thrifty, and everything will fall in place. Thoughts?

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Yours

Murali........

ELSS Mutual Funds: Effect of DTC and Current Status

There is still a year to go before DTC (Direct Tax Code) kicks in, and there seems to be some amount of confusion in people's minds on how DTC will affect the tax saving ELSS mutual funds. To understand the effect of DTC you need to first know how ELSS mutual funds give you tax benefit. These mutual funds are covered by Section 80C, which mean that the money you invest in these funds is reduced from your taxable income (up to a limit of Rs. 1 lac) and hence you pay less taxes. With that said – let's take a look at how DTC impact on your existing as well as new ELSS purchases. Effect of DTC on your existing ELSS MFs The funds that you've already bought have given you the tax benefit in the year you bought them, and after the year of purchase there is no tax benefit from them. Given that, you shouldn't be worried about the ELSS funds you have already bought. The only thing I'll add to that is some people choose for the dividend re-investment option, and the re-investment is treated as a fresh investment. This is important because ELSS funds have a lock in period of 3 years, and your new units are locked for a further 3 years. With that in mind, change your dividend reinvestment option to a simple dividend or growth option. ELSS Purchases from now till April 2012 Since DTC will kick in from the next financial year, you can still buy them this year and get tax benefit under 80C this year. ELSS Purchases After DTC Kicks In Under DTC – ELSS mutual funds will no longer enjoy the tax benefits that they currently do. I don't know whether they will still have the 3 year lock in period, but it doesn't make any sense to have the lock in period if they're not going to have any tax benefit. Will DTC affect the performance of the existing funds? There was an interesting comment where a reader asked that since the popularity of ELSS funds is bound to go down, the assets under management are likely to come down, and will that have any effect on the performance of these funds? I can't think of any reason why it will play out like that. If anything, it should be easier for a fund manager to produce better returns because the base is lower. These were some thoughts that came to my mind while answering ELSS related questions here, please feel free to leave a comment if you have any questions or observations on these.

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Yours

Murali........