ETFs: Mid-path to equity investing for new investors
Equities have a certain allure that has always attracted investors and traders, alike. Direct investing in equities comes with great promise and the potential to generate returns can meet all the financial goals of an investor. It is perhaps for this very reason that investors have been gravitating to direct equities even during the period of job losses and general economic uncertainty. According to a report by BSE, over 10 million new investors entered the markets in 2020, more than double as compared to 2019, which saw 4.8 million investors opening Demat accounts. On an average, more than 70,000 investors, mainly those below 20 years of age, opened Demat accounts on a daily basis in December 2020. This spike has been precipitated by a culmination of a host of factors. These include:
Rise in mobile trading: Easy access to smartphones and cheap data has led to a sharp increase in the consumption of mobile-based solutions and services. Mobile trading offers digitally savvy investors, a smart & easy way to invest in the equity markets.
Rise of direct investors from Tier 2 & 3: In India, growth, wealth, and aspirations are no longer limited to metro or tier 1 city. Individuals residing in tier 2 & 3 cities are increasingly looking to capitalise upon the wealth creation opportunities offered by equities. Further, access to relevant information and education due to the presence of digital apps and sites, makes it easier for them to invest in equities.
Increasing interest from millennials: Millennials are also coming of age and showing interest in equity investing. The fact that they can now invest through digital interfaces only serves to further their interest in direct equity investing.
While all of these point towards the proliferation of equity culture, which is an encouraging aspect, there are some points to be cautious of as well.
Other side of the coin
Unfortunately, most of the new investors are approaching equities, solely focussed on the return potential of the asset class and are unable to see the risks or potential pitfalls. Thus, even while the equity culture is gaining momentum, the first-time investors need to exercise caution. Equity markets are inherently volatile by nature. In the short-term, equity prices react to various news flows and events, which can lead to sharp price movements. These sharp and often negative price movements can have an adverse impact on an investor’s equity investing experience. Without the requisite knowledge and experience, first-time investors can sometimes suffer large losses. These negative experiences can shape their perception of equities and discourage them from investing in equities in the future. Such investors, in extreme cases may choose to never return to equities, having lost faith in the asset class. As a result, they rob themselves of an opportunity to truly harness the value of equities and generate long-term wealth. However, all is not lost.
ETFs – an ideal solution for first-time investors
In order to mitigate such negative experiences, a prudent approach for first-time or new investors would be to treat exchange-traded funds (ETFs) as a stepping-stone into equity markets. ETFs are a type of investment fund or basket of securities that are traded on the stock exchange. Generally, most ETFs are index funds, that is, they hold the same securities as a stock market or bond market index and that too, in the same proportion. Since they replicate the index holdings, they are also able to generate returns similar to the underlying index. For example, a Nifty 50 Index ETF will hold all the stocks of Nifty 50 in the same proportion as the index. As a result, the fund will mirror the returns generated by Nifty 50 index. Likewise, BSE 500 ETF will invest in the 500 companies and the investors too would get a chance to participate in them via investing in BSE 500 ETF.
By investing in ETFs, one can get market-linked returns with no additional stress of security selection or market timing. Just like the stocks, ETFs are also listed on the stock exchanges and can be traded (bought or sold) at any time during the market hours via Demat account. Furthermore, it is one of the cheapest ways to take exposure to equities. One can carry out the buy/sell activity even via a mobile phone. Thus, for a first-time investor, ETFs pack a punch by way of providing diversified exposure to equities in a low-cost, convenient & relatively low-risk manner, when compared to direct investing.
To conclude, if you are new to equity investing, instead of charging head-on into equities through direct equity investing or completely avoiding equities due to the risks involved, investors can take the mid-path by investing through ETFs.
- Article by Chintan Haria, Head-Product Development & Strategy, ICICI Prudential AMC (The views, thoughts & opinions expressed in the text belong solely to the author, and not necessarily of DSIJ)