Why invest in stock markets?

We all have heard of people who have become rich by investing in stock markets.But very few people invest in stock market due to lack of knowledge and the risks involved in it.Of a population of over one billion,barely 18 million invest in equity markets.According to SEBI data,10 cities contributed over 80% of trading volume in 2010.We need to invest smart so that our wealth should grow.An intelligent investor is a realist who buy from a pessimist and sells to an optimist.In this process intelligent investor makes his profit.

Now I would like to mention the reasons why one need to invest in stock markets

1.No social security:In India even though we pay taxes, social security coverage is not provided by the government.In many developed countries under social security schemes people are provided free health care,subsidized education,unemployment and retirement benefits.Most people in India have to provide for these things on their own.

2.Nuclear family:In the olden times people in India lived in joint families.So in times of trouble other members of the family would pitch in and help.But now a days most people migrate to city for jobs and live in nuclear families.In times of financial troubles nuclear families have no one to bank on.

3.Inflation: Every year the prices of things keep on increasing.So as years go by the buying power of money reduces.For example if we have 10000 Rs and the rate of inflation is 5%.The the future value of Rs 10000 in five years time would be Rs 7835 only.To counter inflation your money has to be invested at rate higher that inflation.Over period of last few decades we had a inflation rate of 7.7%

4.Real returns:Before investing money one should know what returns one can get out of the investment and the risks involved.Any investment made should increase your wealth and should be able to counter two factors inflation and tax. 

Real returns=Stated return-Rate of inflation-rate of taxation

5.Compound interest:Albert Einstein once said"The most powerful thing in the universe is compound interest".Anyone who wants to be rich has to understand the concept of compound interest.I will explain this with the help of an easy example.If one invests 1 lac rupees in fixed deposit at an annual interest rate of 8.5% for 5 years.The there are two option

a)Non cumulative fixed deposit will return Rs 142500

b)Cumulative fixed deposit will return Rs 150366

6.Investing options:Before investing we need to consider two things, rate of return and the risk involved.Greater the risk higher the returns and vice versa.I will list out some of the possible investment options considering the risk and their rate of returns (CAGR) quoting data during 1979 to 2013

a) Fixed deposit                      8.5%

b) Government-sec                 8.8%

c) Gold                                   11.1%

d) Sensex                               16.7%

In the time frame inflation was 7.74% .Considering the tax that we need to pay on investments,generating real return (wealth creation) is possible only if one invests in stock markets.

Wishing every one a Merry Christmas and a Happy New Year 2016.