Unlisted Shares vs Mutual Funds: Risks and Rewards
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There are risks and rewards attached to everything, especially in the financial world. No term such as a risk-free investment ever exists. Today, we will talk about the risks and rewards attached to the two popular investment vessels: unlisted shares and mutual funds.
Unlisted Shares: Risks & Rewards
Risks of Investing in Unlisted Shares
Before diving into unlisted shares, it's important to be aware of the potential risks. Our detailed guide on the risks of investing in unlisted shares provides deeper insights. Below are some key risks to consider:
1. Limited Liquidity
Unlisted shares come with likely less liquidity than publicly traded stocks. Since there is no presence of an active secondary market, selling these investments can be challenging. This makes it harder for investors to access their funds when needed.
2. Valuation
There is an absence of publicly available prices on unlisted shares which makes their valuation a tricky process. Investors often face challenges in assessing their true worth, which raises the risk of overpaying for an investment.
3. Investment Risk
Investors may encounter difficulties accessing key financial details and future outlooks of unlisted companies. This limited transparency can increase risks, as investors might not be aware of important issues impacting the business.
Benefits of Unlisted Shares
In this section, we will explore the benefits of investing in unlisted shares, helping you understand the potential rewards and risks involved.
1. High Returns
Private companies and startups during their early stages are said to deliver impressive returns. This rapid growth is an opportunity for early investors to benefit from substantial value appreciation, even before these companies hit a major liquidity milestone or go public.
2. Exclusive Investment Opportunities
Another benefit of unlisted shares is that they open doors to unique investment opportunities. This gives a major investment opportunity to back innovative business models that are yet not available on the stock market. These investments often involve disruptive technologies or niche industries, offering potential rewards that publicly traded companies may not.
3. Diversification of Portfolio
Portfolio diversification is the next benefit of unlisted shares as these investments do not necessarily move in sync with the stock market. Since unlisted companies operate independently of public market trends, they can help cushion your portfolio against volatility and reduce overall risk.
4. Investment Control
Investing in private companies gives investors a more hands-on role in business operations. This could mean having a seat at the table through board representation, shaping business strategies, or being directly involved in key decisions, which is something rarely possible with publicly traded companies.
5. Tax Benefits
The long-term capital gains tax on these stocks has been lowered from 20% to 12.5%, eliminating the complexities of the previous indexation system. Additionally, starting from FY 2024-25, LTCG up to ₹1.25 lakh is exempt from taxation.
Mutual Funds: Risks & Rewards
Risks of Mutual Funds
1. Market Risk
The main mutual funds risk is market risk, as returns depend on market performance and are not guaranteed. In a bearish market, you might see little profit or even losses, while a bullish market can offer high returns.
2. High Costs
Mutual fund risks involve fees such as management charges, entry/exit loads, and commissions, which depend on the fund type and apply regardless of the fund’s performance.
3. Taxes
Mutual fund gains are taxed differently where equity funds face 15% tax on short-term gains and none on long-term, while debt funds are taxed based on income slab. AMCs pay 15% tax on dividends, and investors earning over Rs. 10 lakh pay 10% tax.
4. Lock-In Period
Some funds, like MIPs or SIPs, have a lock-in period. This means that you cannot withdraw your investment until the period ends, typically in three to five years, even if you need access to your money sooner.
Whether you choose to invest in unlisted shares or mutual funds, both are subject to different risks and rewards. It is up to you to weigh them and decide which one is most suited to your needs.
Rewards of Mutual Funds
1. Diversification of Portfolio
Mutual funds offer diversification by spreading investments across different securities like debt funds, stocks, and money market instruments. This reduces risk, as poor performance in one area can be balanced by better returns in others.
2. Monitored Professionally
Mutual funds are managed by expert money managers who track market trends and make informed investment decisions, so you can trust that your money is in safe hands. They handle all the complexities, ensuring your investment is in good care.
3. Liquidity
With mutual funds, liquidity is easy, allowing you to convert them into cash with ease. But this depends on the type of fund. Always check the terms of selling your mutual fund units before you invest.
4. Low Capital Required
Unlike stocks or real estate, which require large investments for decent returns, mutual funds allow you to start with just ₹500. With Systematic Investment Planning (SIP), you can make small monthly investments, making it accessible for everyone to invest within their means.
