What Exactly Is Equity?

Equity is the amount of money left over after a company’s assets are liquidated and its debt is paid off. In a nutshell, equity is the difference between a company’s net assets and its liabilities. Equity is sometimes known as stockholders’ equity or shareholders’ equity. It refers to a business owner’s remaining claim after all obligations have been paid.

Here’s an example to demonstrate what equity is:

Take a look at ABC Corporation’s total assets and liabilities as of September 30, 2019. On that day, it had a total asset value of Rs 1 lakh. Meanwhile, it owed Rs 75,000 in total obligations (including loans and taxes). As a result, ABC Corporation’s equity on September 30, 2019 is Rs 25,000 (Rs 1 lakh – Rs 75,000).

HOW DO BUSINESSES RAISE CAPITAL?

To begin or extend their activities, all businesses need cash. They have three major options for raising funds:

  1. The company’s first investment

Assume Alok wants to establish a business, and Bindu, Christina, and Dilshad each contribute Rs 10 lakh. The company’s stock is then held by all four of them.

They may opt to seek additional funds in the future to grow the company’s activities. This raises the issue of the company’s next source of capital: whether to borrow from private investors or to list on the stock market.

  1. Taking out a loan from a private investor

Individuals and organisations such as pension funds, university endowments, and insurance firms are examples of private investors. In exchange for the investment, the company’s founders agree to give up a portion of their ownership. Each investor’s ownership stake is proportional to their investment.

Private equity investors, on the other hand, must have a thorough grasp of the company situation. They must also have a certain amount of net worth in order to invest.

  1. IPO (initial public offering)

A company’s goal in listing on the stock market is to raise funds from the general public. The majority of businesses start off small and private. Some of them grow to be enormous and then become public. Here’s a rundown of the IPO procedure:

An initial public offering (IPO) is required for a business to go public and list on a stock market (IPO).

It will need to engage an underwriter for this. This is often an investment bank that works on the company’s behalf. All of the steps for launching an IPO are carried out by the underwriter. They also determine the value of the firm and set the first share price appropriately.

An initial public offering (IPO) is when a company issues its first round of shares to the general public. The shares are either issued at the book price or at the underwriter’s price.

The firm may list on a stock market like the National Stock Exchange (NSE) or the Bombay Stock Exchange after the IPO shares are allocated (BSE).

Buyers and sellers may now exchange the company’s shares.

The value of the firm will be determined in the future depending on the current market price of the shares. The market price of a stock is the price at which it is traded on a stock exchange.

Investing in public equities is a pretty straightforward process. Even low-net-worth individuals may engage in public stock via initial public offerings (IPOs) or the open market. Learn how to apply for an IPO, what the benefits and drawbacks are, and what sorts of IPOs are available.

WHY SHOULD I INVEST IN EQUITIES?

It helps to examine different investment products in the market to understand why equities is a smart avenue for investing. Bank fixed deposits (FDs) and post office savings programmes are two prominent non-equity investment tools in India.

Potential for profit:

Non-equity instruments have traditionally been thought to be low-risk or safe investments. They do, however, produce wealth at a reduced rate of return. A fixed deposit, for example, pays interest at a rate of roughly 6–7%. According to a Live Mint report dated 3rd April 2019, the Sensex’s cumulative annual growth rate (CAGR) has been over 16 percent during the previous 40 years between 1979 and 2019.

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Factor of taxation:

Fixed deposit interest earnings are subject to income tax. The tax rate is determined by the tax bracket of the investment. If you are in the 30% tax band, your fixed deposit interest income will be taxed at the same rate. Gains from stock investments are taxed differently than other types of gains. After more than a year, you decide to sell (redeem) your share holdings. Because you remained invested for more than a year, your earnings will be classified as long-term capital gains (LTCG). When such profits surpass Rs 1 lakh, the present taxation regulations impose a 10% LTCG tax. Calculate your tax due for the year with the help of our income tax calculator.

Security:

After all, the so-called safe investments aren’t all that safe. Only up to Rs 5 lakh in bank deposits is covered per investor. The insurance is provided by the Deposit Insurance and Credit Guarantee Corporation (DICGC), a subsidiary of the Reserve Bank of India. Even at public-sector banks, deposits over Rs 5 lakh might be lost if things go bad.

The benefit of equity: When all of the aforementioned factors are considered, equities is one of the greatest investment options accessible to a retail investor. Of course, such investments are subject to market risk. Investing in the stock market, on the other hand, might result in better returns and lesser tax liabilities.

Learn all there is to know about the stock market, including how it operates and the benefits of owning equity shares. Here you’ll find solutions to all of your equities trading queries.

WHICH PEOPLE SHOULD INVEST IN EQUITIES?

Before investing in stock, one must consider the following factors:

Horizontal time

Investing is, at its core, a long-term game. As a result, anybody with a lengthy investment horizon should consider investing in stock.

Age

The time horizon for investing shortens as you become older. As a general guideline, invest (100 – Age)% of your portfolio in equities. A 40-year-old, for example, might devote at least (100 – 40) percent — or 60% — of their portfolio to equities.

Appetite for risk

Market risks apply to equity investments. You might invest in blue-chip or large-cap equities if you have a modest risk appetite. These are thought to be less hazardous than other kinds of stocks. Learn all there is to know about small, mid, and large-cap stocks.

EQUITY INVESTMENT TYPES

In India, there are a variety of options to invest in stocks. Some of the more common options are listed below:

Shares

Shares are fractional ownership units in a corporation. A shareholder is someone who invests in the company’s stock. The level of your ownership is proportional to the amount of money you’ve put into the firm.

The company’s market capitalisation (market cap) is frequently used to classify shares. The entire market value of a company’s outstanding shares of stock is referred to as the term. It’s computed using the following formula:

a company’s total number of outstanding shares multiplied by the current market price of one share

ABC Corporation, for example, may have 100 outstanding shares. If each share is worth Rs 10, the market capitalization of ABC Corporation is Rs 1,000.

Shares are classed as large-cap, mid-cap, or small-cap based on their market capitalization. More information about them may be found here.

Mutual funds are a kind of investment that allows you

Mutual funds are a simple method to invest in the stock market. They’re ideal for investors who don’t have much knowledge with the stock market or don’t have the time to do market research. A mutual fund collects money from individual investors and then invests it in a variety of assets.

Asset management organisations provide and manage such funds (AMCs). For diverse mutual fund portfolios, an AMC may combine money from numerous participants. On behalf of the AMC, a fund manager oversees each of these portfolios. A mutual fund’s collected money is invested in different assets such as shares and bonds by the fund management. Equities mutual funds, for example, are funds that invest primarily in equity securities.

The following are some of the advantages that mutual funds provide to investors:

  1. The investor’s money is secure since investment choices are made by qualified fund managers.
  2. Diversification is an advantage of mutual funds. This means they spread your risk across various assets, lowering your risk exposure. Even pure equities funds benefit from the diversification provided by mutual funds. Mutual funds that invest in equities of many firms are known as equity mutual funds. This lessens the influence of a single stock on the fund’s net asset value (NAV), which is just the fund’s per-unit market value.
  3. A mutual fund may be purchased with a lump-sum payment or by investing in incremental increments via a Systematic Investment Plan (SIP). SIP is a method of investing in which a pre-determined sum is placed in a mutual fund scheme on a monthly basis. With AutoInvest, Kotak Securities now provides the SIP option for equities. This allows you to invest a predetermined amount in a single stock on a monthly basis.

Here’s where you can learn more about mutual funds at Kotak University.

Futures and options

Options and futures enable investors purchase or sell equities stocks/indices in the future, whereas shares and mutual funds represent the cash market. Both are contracts for purchasing or selling a certain stock/index at a fixed price on a specific future date. However, there is a significant distinction between options and futures:

An investor with an options contract has the right, but not the responsibility, to purchase (or sell) shares at a set price at any time throughout the contract period.

A futures contract, on the other hand, mandates a buyer to buy (or a seller to sell) shares on a certain future date unless the holder’s position is closed before the expiration date.

Consider the following example of a contract with options: On April 30, 2020, an investor purchases a call option to acquire ABC Corporation shares for Rs 50 per share. The strike price is what it’s called. At the time of writing, the stock is trading at Rs 30. The premium is the amount paid by the investor when he or she opens a call option. The contract will expire if the buyer does not purchase ABC Corporation shares by April 30, 2020, and the investor would lose the premium. If the stock price rises to Rs 60, the investor might purchase the shares for Rs 50. The shares from the option may subsequently be sold in the cash market for a profit of Rs 10 per share.

A futures contract, on the other hand, is a legally binding agreement. Let’s say you sign a futures contract to buy a certain stock on a specified day and at a specific time. Unless the contract is closed prior to that date, you will be required to execute the transaction on that day.

Experienced investors may employ options and futures contracts. They might utilise the instruments to speculate on the underlying stock’s price changes or to hedge present investments. Investors may perform massive transactions with only a modest amount of margin money, which is a benefit. At Kotak University, you may learn more about Derivatives Trading.

Arbitrage funds are a kind of hedge fund.

A mutual fund that takes advantage of market volatility is known as an arbitrage fund. Its goal is to make money off of price changes in the cash and derivatives markets. An arbitrage fund, for example, may purchase and sell the same stock on several markets at the same time. It might also buy stock in the cash market and sell it in the futures market at the same time. This enables the fund to profit from price changes caused by market inefficiencies while also ensuring investor gains.

EQUITY INVESTMENT RISKS

Every investment has the potential to be dangerous. Here’s a quick rundown of the dangers of investing in stocks:

Risks associated with macroeconomics

A slowing economy, for example, might have a variety of effects on the stock market. Though such macroeconomic issues have a wide influence on all industries, their effects may differ. In reality, a firm in an otherwise solid industry may suffer as a result of managerial flaws or regulatory challenges. As a result, investors should diversify their portfolio to reduce their exposure to a single company or industry.

Legislative and political threats

The policies of the governing government have an impact on businesses. A new law might have a negative impact on the future of a firm or a sector. A tighter environmental rule, for example, may make it more difficult for mining corporations to produce profits at the same pace as before. Let’s say the government wishes to liberalise a previously regulated industry. In this instance, indigenous businesses that are less efficient may lose out to international competitors.

Risks associated with exchange rates

When the rupee depreciates, it hurts companies that rely significantly on imported raw commodities. Meanwhile, as the rupee increases, exporters’ profits may decline. Because the price of crude oil rises in rupee terms, a falling rupee has an impact on the economy as a whole.

ONE LAST WORD

Adding equity to your financial portfolio may help you beat inflation. Inflation is thought to be wealth’s greatest enemy since it diminishes your money’s buying power over time. However, unlike many other investment vehicles, equity has the ability to generate inflation-adjusted returns over time. While experienced investors and traders may invest or trade in stocks directly, people with less expertise can choose for a mutual fund. Just keep in mind your financial objectives and requirements. This will assist you in putting up a successful stock investing plan.

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