The Mutual Fund Advisor: FD vs. Mutual Funds – You’re Asking the Wrong Question! – The times of India

In the long run investment funds are usually better than FDs, but only if you use them for the right purpose, time frame and temperament.You talk about investment funds and there is always someone who raises their hand and asks: “Simple batao – FD, better hai ya investment fund?” What they want is a one-word verdict: “Investment funds!”, with guaranteed returns in the double digits. Real life is less dramatic. FDs and mutual funds are not enemies. They are tools. One is a screwdriver, the other is a drill. If you don’t tell me what you’re trying to build, “What’s better?” is the wrong question.FD comfortWith an FD you get a fixed interest rate, a promise from the bank that you will get your money back plus interest at maturity, and the reassuring feeling that your money is “growing nicely”. The problem is that this comfort is partly an illusion. The FD rate – let’s say 7 percent – ​​looks neat on paper, but there are three things quietly eating it up: taxes, inflation and time.The tax is the first to act. FD interest is taxed on your entire slab. If you are in a high tax bracket, that attractive 7 percent after tax could become more like 4.9 percent. Then comes inflation. If your cost of living is rising at about the same rate as your after-tax FD returns, you’re not growing; you run to stay in the same place. In ten to fifteen years, even a small difference between inflation and your FD returns turns into a big deficit.Put ₹10 lakh in an FD at 7 percent for 10 years. Before tax, it will be around ₹19.7 lakh. After tax, depending on your plate, it could be closer to ₹16 lakh in your hands. Now think about what you can actually buy with that amount ten years later.I’m not saying FDs are bad. They are excellent for short-term money and essential when capital security is non-negotiable. But they lack power as an engine for creating wealth over long distances.Stock engineWhen I compare FDs and mutual funds, I mainly mean equity funds because comparing FDs with pure debt funds is just a debate between two slow scooters. An equity mutual fund gives you ownership in a large basket of companies. There is no guaranteed return in any given year, but over longer periods a well-chosen equity fund has a good chance of outperforming an FD.Year after year it can look ugly. A fund can rise 25 percent one year and fall 15 percent the next. If you look out to ten to fifteen years, the erratic line of an equity fund has historically been much steeper than the flat line of the FD.Put the same Rs 10 lakh as a lump sum into a decent diversified equity fund. Over a period of ten years, with an illustrative average return of 12 percent, it could reasonably grow to around Rs 31 lakh. The gap between this and the FD outcome is what ‘mutual funds tend to be better than FDs in the long run’ actually means.Two things are driving this: First, building at a higher average rate makes an extra 3 to 4 percentage points per year, a huge difference over a period of 15 to 20 years. Second, tax efficiency: mutual fund gains are taxed differently than FD interest, especially in the long term, and target-based withdrawals can keep the tax burden modest.At Value Research Fund Advisor (VRFA), when we build goal-oriented plans with mutual funds, asset allocation becomes key. Think of it as choosing where your money sits on the spectrum from comfort to growth. The same goal can look very different depending on whether the money is entirely in debt mutual funds, entirely in equity funds, or in a sensible mix of the two. The long-term difference, even with reasonable assumptions, is often large enough to change the way people think about “risk.”Discomfort premiumIf equity funds are so powerful, why isn’t everyone dumping FDs and piling into them? Because mutual funds involve discomfort, and people hate discomfort. With FDs, your balance only goes up – slowly, but up. With stock funds it goes up, down, sideways and then suddenly up again. The price for higher long-term returns is short-term volatility.Over one to three years, a good equity fund can easily underperform FDs. During a bad phase you can see a decline of 10 to 30 percent on paper. If your goal is very close (next year’s college tuition, a down payment on your house in two years), you don’t have time to wait for recovery. With such objectives, the FD does not ‘win’ on return, but on suitability.That is why we at VRFA never say: “equity funds are always better than FDs or similar options”. For each goal, we ask ourselves: how far away is it, can this money increase in value, and what is your true risk tolerance? Only then will we decide on the asset allocation between equity and bond funds. The goal is not to eliminate safety. It’s about putting security in the right place, not expecting it to do the job of creating wealth in the long run.Real returnMost comparisons stop at something like “FD return 7 percent, equity fund return 12 percent”. That’s half the story. You really have to think in three layers. Firstly, there is the nominal return: the number on the brochure. Secondly, there is the after-tax return: what remains after the government has taken its share. Third, there’s the real rate of return – what’s left after both taxes and inflation. That third number determines whether you can really afford your future.For example, suppose that inflation averages 6 percent over the next ten years. Your FD, after taxes, actually earns about 4.9 percent. Your actual return is about minus 1 percent. A well-chosen stock fund with an average of 12 percent over the same period, even after taxes, can give you a real return of about 5 percent. Over time, that difference is the gap between “I’ll be fine” and “I wish I would have done this differently.”At VRFA we build the portfolio with inflation in mind. Some of the money has to beat it or the target will continue to slide. That’s why equity funds are in the mix, if your risk appetite supports it. The question is not, “How much will this grow?” It is, “Will this be enough when the time comes?” On that test, playing it completely safe usually doesn’t work for long-term goals.Right mixSo are mutual funds really better than FDs in the long term? If you use equity funds primarily for long-term goals of ten years or more, combine them with the right amount of debt for stability, and behave sensibly during down years, then yes – historically they have outperformed FDs by a wide margin more often than not.But if you view mutual funds as a two-year “FD upgrade,” jumping in and out based on market noise, or using 100 percent equity for a two-year goal, they probably won’t beat an FD for you, and the funds will be blamed for behavior that wasn’t their fault.At VRFA we do not aim to create heroic share plans for everyone and say: “Dekho, kitna high return ban sakta hai.” We build portfolios where lower volatility debt funds handle short-term or non-tradable money, while equity and hybrid mutual funds work together for medium- and long-term goals. Ultimately, the right question is not, “Are mutual funds better than FDs?” It is: for this purpose, what mix of security and growth opportunities gives me, with my temperament, the best chance for success at this time? Once you start asking that, the answer is no longer a slogan, but a good plan.(Sneha Suri is lead fund analyst – fund advisor of Value Research) (Disclaimer: Recommendations and views on the stock market, other asset classes or personal finance management tips given by experts are their own. These views do not represent the views of The Times of India)