Equity investments for wealth creation: A beginner's guide — 5 steps to get started, benefits, risks and more

Investing in the equity market is one of the most efficient ways to build generational wealth. Equity investors purchase ownership stakes in businesses through stocks or shares. As a shareholder, you become a partial owner in a business. The returns that one makes in equity investments are primarily generated from capital gains and dividends.

The long-term capital gains tax (LTCG) on equities is currently 12.5%. Under the current tax regime, capital gains exceeding ₹1.25 lakh in a financial year are taxed at 12.5%. Generally, equities compound by 12-13% on an annual basis. Still, it is crucial to keep in mind that investments in equities come with higher risks compared to fixed deposits, bonds and other similar fixed income investments.

Furthermore, reading good books such as The Psychology of Money by Morgan Housel, The Intelligent Investor by Benjamin Graham, and Think and Grow Rich by Napoleon Hill, along with similar books, can further help investors understand basic concepts such as consumption, profit losses, balance sheets, asset classes, and the power of compounding. Such knowledge can bolster investment decisions and make buying stocks easier.

What is equity investment?

Simply put, equity investments mean buying shares or stocks that represent ownership in a company. There are several different types of the same, as discussed below:

1. Shares: Investing in shares provides investors with direct ownership in businesses. The values of these shares consistently change depending on market conditions, business performance and sector implications.
2. Equity mutual funds: These are professionally managed funds. They can be broadly divided into large-cap, mid-cap, and small-cap mutual funds. The large-cap funds focus more on leading businesses such as Reliance Industries, HDFC Bank, TCS, and Asian Paints, among others. On similar lines, mid-cap and small-cap mutual funds focus on companies with lower market capitalisations in comparison with large-caps.
3. Private equity: This particular segment of investment focuses on unlisted private companies and new start-ups looking for large funding to expand their businesses. Such investments, i.e., venture capitalism or private equity, are suitable for high-net-worth individuals and not for retail investors.

Benefits of equity investments

• Wealth creation: Long-term equity market investments have the potential to generate significant wealth over a decadal basis. The focus should only be on selecting the businesses with the highest potential for compounding earnings and growth.
• Beating inflation: Equity investments generally provide returns that outpace inflation, preserving investors' purchasing power. Again, the limitation here is when investments are made in consistently compounding businesses.
• Income from dividends and buybacks: Some listed entities pay regular dividends to their shareholders, sharing profits with them. In addition to dividends, there is also the option of share buybacks. For example, Infosys recently announced a mega ₹18,000 buyback to reward shareholders.

Risks in equity investments

• Market risk: Shares' values can drop drastically due to market downturns, such as the market corrections during the COVID-19 pandemic and the 2008 financial crisis. Investors must remember this.
• Risk of performance: Due to ever-evolving geopolitical events such as Trump tariffs and the Russia-Ukraine war, sudden or unexpected performance risks can arise for individual stocks or even sectors. This can complicate even well-built long-term portfolios.
• Liquidity risk: Liquidity risk generally occurs in penny stocks or during extreme market downturns. It can make it difficult for investors to quickly sell stocks and exit loss-making positions without adversely impacting stock prices.
• Regulatory risk: Changes in laws can impact both short-term and long-term stock prices. Legal provisions such as an increase in capital gains tax from 10% to 12.5%, tax on dividends, and tax on buybacks, etc., can all negatively hamper long-term return potential.

How to start: Steps to open a Demat and Trading account

1. Select a leading broker or banking institution that provides demat and trading account services.
2. To complete the KYC process, submit the essential documents, such as Aadhaar, PAN, bank details, etc.
3. Upon successful submission, sign an agreement with the broker or bank. Keep in mind that this can be done both digitally and physically by visiting the respective bank branch.
4. Avail internet banking, save your passwords, and link your bank account for seamless fund transfer.
5. Start your investment and trading journey by placing orders through your demat account. If in doubt, contact the respective customer support executive.

Tips to manage equity investment risks

• Diversify across different sectors and asset classes.
• Invest with a long-term perspective, don’t participate in short-term trading.
• Stay informed on market trends and news by referring to credible sources.
• Avoid emotional decisions during volatility and follow the fundamental rules of investing.

Finally, before opening a new demat account, you should remember Charlie Munger's iconic words: “The big money is not in the buying or the selling, but in the waiting.”

This simply means growth in equity markets is a consequence of making sacrifices and investing in good businesses. Once the investments are made, you should give them time to earn returns. This philosophy is against the widely practised norm of thrill-based, short-term trading.

In summary, equity investments offer a pathway to significant long-term wealth but require informed planning and risk management. Opening a new demat account with a leading broking firm can be a good start, as it can provide a seamless investment experience with convenience, low charges and comfort.

Disclaimer: Equity investments carry market risks, and past performance is not indicative of future returns. The stocks and companies discussed in this article are purely illustrative examples. This content is for educational purposes only and is not financial advice. Please consult a qualified financial advisor before investing.